Living off equity – a Reality Check

I reckon that sets the record for the longest ever PS at the end of a message...

Great stuff! Thanks a heap, Steve, for sharing your insights with us.

I'm sure we all appreciate it immensely. :)

Now to study it in more depth... :eek:
 
Steve congratulations....
This is without doubt one of the best threads I've yet to read here. Thanks so much for sharing your wealth of knowledge with us. It's really opened my eyes up to many new investment paths.

Quick question.... your use of DCT to produce distributions. How reliant is your system on the performance of this type of trading? Is it technical analysis based? Just a bit weary when it comes to trading systems as I've seen many "can't fail" approaches crash and burn....

Thanks again.
ArJay:)
 
ArJay said:
Steve congratulations....
This is without doubt one of the best threads I've yet read here.

Quick question.... your use of DCT to produce distributions. How reliant is your system on the performance of this type of trading?
Hi ArJay,

Thanks for that :)

DCT is another book :eek:

However I think another round of SIG and possibly MIG will include an evening of discusion on DCT and the system :)

So hopefully see you there for an actual demonstration.

Regards,

Steve
 
Steve,

Maybe this is a question more suited to 'Investor Psychology', but, since you see a number of Investors, you are probably in a more 'objective' position to answer this question than many individual Investors.

How easily do you find most of your Client's move between these Risk Profiles? ie. if a 'Moderate Conservative' comes in, would you generally see fingernail scratch marks across the floor before they could be convinced to become a 'Moderate Aggressive'?

For that matter, do 'Moderate Aggressives' have trouble reverting to 'Moderate Conservatives' again?

How 'entrenched' in their Risk Profile are most of your Clients?

Do you see part of your role to 'educate' Client's on the benefits of changing 'Risk Profiles' or do you simply gauge their initial Risk Profile and work within those limits?






:)
 
Alan H said:
How 'entrenched' in their Risk Profile are most of your Clients?

Do you see part of your role to 'educate' Client's on the benefits of changing 'Risk Profiles' or do you simply gauge their initial Risk Profile and work within those limits?
Hi Al,

I will work within a clients Risk Profile . . . and it is the education that allows them to move between catagories.

An understanding of a concept removes the fear, so ultimately this is what creates SANF :)

On the other hand there are clients that are so aggressive in their approach, that a little bit of (understanding) fear helps them to become somewhat more rational. :D

Regards,

Steve
 
Steve, could you repeat all of that please...........just kidding.

I just wanted to add my thanks to the growing list of appreciative (and supportive) forum members.

Whether forumites go ahead now or at a later date with your strategies remains to be seen but regardless, your monumentous effort will, I'm sure, give everyone something to think about.

Thanks again
Marty
 
Dear Sim

Would you please combine the five chapters of Steve's "book" into a new thread, lock it and make it sticky?

Such good work should not be lost. It should be available for reference at all times. Ta!

Thommo
 
Hi Steve,

A bit of constructive criticism from one of your most ardent proofreaders… :D
All the stuff below is about Post-Retirement. I have absolutely no issues with the Pre-Retirement stuff - I did it & it worked for me & if I was a financial advisor I'd recommend it:).

Chapter 4

I’d rather see a Nett IP yield quoted instead of 4.5% gross. There doesn’t seen to be any account taken of IP expenses (a v. minor quibble).

Buffers – you mention buffers quite a bit (it gave me a nice warm fuzzy feeling:D).
Can you elaborate on what you mean by buffers?
How liquid are these buffers ?
Are these buffers ever likely to disappear just when you need them most ?

I wouldn’t agree that having 10yrs of 10% returns from a share fund would imply that the next 40 yrs (in retirement) would generate the same returns.
It may work wonders for the SANF of some people. But I’d suggest that the WTC looked like it would be there forever until…, think tsunami, the Japanese economy was going great until 80’s.

SteveN said:
Capital growth at 1% = $65,000 per year
Capital growth at 2% = $130,000 per year
Capital growth at 3% = $195,000 per year
Capital growth at 4% = $260,000 per year
Capital growth at 5% = $325,000 per year
Capital growth at 6% = $390,000 per year
Capital growth at 7% = $455,000 per year
Why did you start off with examples of 1% CG, why not start with –7%?

SteveN said:
I will stop at 7%, even though both property and shares have both produced in excess of a 7% average return over the past 20 years. (There are some who believe that CG will never happen again!)
There are some who believe that CG will NEVER EVER be consistent!.

The first post in this thread proposed that the main problem with LOE is volatility. I’m sure no-one is expecting exactly 7.2% IP growth for each & every year over their 40yrs of retirement. The LOE strategy would work brilliantly if this were guaranteed:D! Same for shares.
So can you give us some scenarios with volatile growth rates eg Japan, 0% average for 20 yrs and Hong Kong – down 57% over 7 yrs, and some other more likely scenarios, eg Bris 0% for 10 yrs until 2000

SteveN said:
The gross share fund should produce distributions of 10% which will produce $325,000 per year of income, paid quarterly. Okay, if you are not confident of achieving this amount of distributions, then lower the figure accordingly. Realise though, that if you have employed the structure for up to 10 years to reach this point, then you will have far greater confidence regarding the efficiency of DCT to produce such distribution incomes, because you will have seen it happen up to this point in time.
What would be the maximum margin loan LVR allowed by the margin lender, for a fund that returns 10% consistently?
And why do you suggest gearing up to 50% in retirement?

How volatile would you expect the distributions of such a share fund to be?

What percentage drop in the sharemarket would be required before a margin call would occur assuming a DCT strategy?
Also take into account a DCT strategy would be buying heavily the more the market fell. (Edit OK – I realise it needs another book, but can you give us the executive overview).

Would you expect growth from such a share fund? How much?

You given examples using a Share fund that returns 10% income, can you give examples using lower risk LPTs returning say 8% (with & without gearing and assuming they grow with CPI), cash returning a guaranteed 5.25% with no CG, low volatility LICs returning 5% with 7% CG. If you don't agree with my yields/CG choose different ones...:cool:
Also any comments on the volatility of each asset class and why you haven't made it an option?

And snipping from a previous post -
I'd say, "Wow, the numbers looks great, but what about -

* the risks you perceive
* what is the assumed worst case scenario
* what buffers are required
* exit strategies employed as attitude to risk changes
* any adjustments that may be necessary if worst case scenario happens
* is any active time/effort required (in retirement) to monitor/adjust anything

And also explain your answer in the context of 22 yrs (and counting) of 0% growth in Japan that no-one ever thought could possibly happen."

Chapter 5.

Regarding Risk assessment I agree that designing categories of risk profile is hard. Have you considered approaching it with the end in mind? – i.e. on a needs basis.
Eg
1. I need a 99.99% guaranteed income of $50K pa for PPOR bills & food & petrol & beer
2. I would like a further $40K pa for new car & O/S holiday, but if it doesn’t happen every year its OK by me.
3. It would be nice to be able to buy a $500K Winnebago some time in the next few years.
4. It would be really nice to be able pay cash for a $5M holiday home Dubai some time in the next 10 yrs.

So an asset allocation that generated the above would be –
- I need to be conservative about my food/petrol/beer money, so I need $50K generated from cash/low risk assets
- a further $40K from lowish risk assets
- $500K from higher risk assets
- $5M from highly geared, high risk share fund

SteveN said:
Moderately Conservative

You have chosen to put 50% as cash & leave 50% in Residential IP returning 3%. Didn't the previous chapter use 4.5% gross yield ?

You could have chosen (lower risk?) LPTs returning 8% (also index linked). Do you consider this a viable option?

SteveN said:
Balanced:

Capital growth at 1% = $48,750 per year
Capital growth at 2% = $97,500 per year
Capital growth at 3% = $146,250 per year
Capital growth at 4% = $195,000 per year
Capital growth at 5% = $243,750 per year
Capital growth at 6% = $292,500 per year
Capital growth at 7% = $341,250 per year


Thus the total income generated from this method at a 5% CG will be:

LOE of $243,750

and a passive income of $75,500

Totalling $319,250 compared to $433,000 in the presented example.

Now I know that I would prefer the extra $113,750 per year, but each to there own as per Risk for Reward and I am sure many will choose this slightly lower risk profile with no loans against the shares.
This is where I have issues with a retirement plan. But first I fully agree that each to their own as per Risk for Reward.

It’s easy for everyone to be blinded by the fact that on average they’ll have an extra $113,750 pa mostly tax free. However, some years they’ll have nothing (that is absolutely $0,zilch, zero) & some years they may have many times that. This is volatility. Can you explain volatility relates to this outcome?

Cheers,

Keith
 
Hi Keith,



Okay this is a good response . . . many questions: :)




Keithj said:
I’d rather see a Nett IP yield quoted instead of 4.5% gross. There doesn’t seen to be any account taken of IP expenses.
I have allocated 4.5% GROSS yield to the property portfolio and OFFSET this with holding cost expenses. (IP expenses)

Also, wherever I have mentioned the 4.5% yield I have mentioned that the passive income stream will be used to cover the property expenses.



Keithj said:
Buffers – you mention buffers quite a bit (it gave me a nice warm fuzzy feeling).
Can you elaborate on what you mean by buffers?
How liquid are these buffers ?
Are these buffers ever likely to disappear just when you need them most ?

Buffers will be held in a variety of ways:






  • LOC / Offset account: cash earning the same interest as the current interest rate. This is stable, liquid and CG fluctuation will not affect it.
  • Cashbond: Annuity delivering regular after tax income and guaranteed for the term. This is stable, liquid and CG fluctuation will not affect it. Also the annuity is commutable should you need the full balance. This income will be directed into other assets of which the Offset account above is one of the choices.
  • Share fund without a margin: Money housed in the share fund is liquid (1 week) and can also serve as a buffer, whilst accruing CG and creating distributable income. If there is a decline in CG, then the buffer will decline by the same percentage. The choice is guaranteed lower return in cash as above, or fluctuating higher return as in shares.
  • Share fund with a margin: Exactly as above except for double the return. (The margined amount.) Note that when capital needs to be withdrawn, then the margined portion should be reduced proportionately.
You will notice that as the return goes up, so too does the risk. Each investor will choose a buffer /s according to their individual risk profile.



You should still be feeling nice, warm and fuzzy. :D




Keithj said:
Why did you start off with examples of 1% CG, why not start with –7%?

This is not for a particular year; this is the long term average.

You personally might well wish to plan for a long term average of -7%:

In this case you would plan accordingly and not hold any CG investment assets and rather hold all your assets in cash. (Or gold ?)

Each according to their own . . . make your own pick.

The long term averages suggest 7% or greater. (These long term averages include disaster times too.) You spoke of the fact that the WTC is no longer there: This is a subject very dear to my heart, having worked there for some years. Well, despite that disaster, the chaos caused volatility to the extent that I personally returned 24.25% in shares that year and Property in Aust was double digit too.



The most important aspect remains: Risk for Reward . . . choose what makes you comfy. Income wise and SANF wise.



Keithj said:
So can you give us some scenarios with volatile growth rates eg Japan, 0% average for 20 yrs and Hong Kong – down 57% over 7 yrs, and some other more likely scenarios, eg Bris 0% for 10 yrs until 2000
Hmmmm, I thought the full presentation actually spelled this out . . . I shall have to read it again. :p




No Growth = No Spend:

So maybe there would be no CG and therefore no Equity to spend.



In which case one would have to rely on the passive income. (Just like in the conservative model) This income will be made up of: Rental income, Dividends, distributions.



Now you mention Japan, Hong Kong and Brisbane:

Diversification says you should spread your investment around, so for local property whilst Brisbane was flat, Sydney and Melbourne were booming and a spread of property through these three cities would have averaged greater than 7% in these years.

I can’t talk for property in Japan and Hong Kong. Did this property have the necessary Land Content? Were the properties purchased with Rental Reality?



As far as shares go: it is very easy to spread a portfolio around internationally.

In the case of Japan and Hong Kong, even though property markets may well have been in decline over a long time period, their equity markets certainly didn’t lack volatility. The higher the volatility, the higher the distributions would be with DCT.

The point is the spread of assets and income classes lowers the risks and you would be hard pressed to show me a return of such a diversified spread, even through bad times, that would not have exceeded the cash rate!



Conservatives are relying on the return on cash as being their savior?

What was the cash rate and long term bond yield in Japan throughout the 20 years?








Keithj said:
What would be the maximum margin loan LVR allowed by the margin lender, for a fund that returns 10% consistently?
And why do you suggest gearing up to 50% in retirement?

Maximum margin loan LVR = 70% (On Navfund)


I recommend a 50% margin, (Aggressive Category will go higher) because this allows for a 40% market decrease. (By comparison Sept 11th dropped the market by -14.7%.)

Oh and in that year the realized profit (Distribution) was 17%. ;)




Keithj said:
How volatile would you expect the distributions of such a share fund to be?

Very stable actually:

It all has to do with the volatility of Blue Chip shares in a given year. Surprisingly this volatility level (The amount that shares rise and fall between peaks and troughs) is very stable. The volatility will be much higher at times of chaos, which makes for greater distributions.



I expect the distributions to be 10% at the low end and 18% at the high end as per normal long term volatility. 10% to 14% should be the norm. Currently this year we are performing at about 14% distribution (10%+ first 3 quarters) and this has occurred NOT because the market is going up, but rather because of volatility in energy stocks.



Keithj said:
Also take into account a DCT strategy would be buying heavily the more the market fell.

Basically this question represents a lack of understanding of DCT. (No disrespect meant here :)) The Navtrade system certainly buys in a market decline for value and sells on a market increase for profit. It is the number of profitable trades (Sale for profit based on previous low purchases) that dictates the distribution and this is DCT. When the market is low we may well be 100% in shares, but this doesn’t stop the trades which are short term fluctuations. The converse applies that we could be 100% in cash when the market is over valued, but the trading (DCT) continues.

Financial year 2001/2 is a good example of DCT working well:

Market decline = -6.7%

DCT = 24.25% (17%+ distribution and 7%+ unrealized gain.)



Keithj said:
. . . can you give examples using lower risk LPTs returning say 8% (with & without gearing and assuming they grow with CPI), cash returning a guaranteed 5.25% with no CG, low volatility LICs returning 5% with 7% CG. Also any comments on the volatility of each asset class and why you haven't made it an option?
Of course I could have given examples of every class of asset!! (Wasn’t the presentation long enough? :p)


I referred to the use of many of these investment classes and suggested that they would lower / raise the risk profile and that each investor should choose accordingly.

It is easy to work out the outcomes at the different percentages . . . perhaps you might like to volunteer to present this to the rest of us. :D




Keithj said:
. . . but what about -

* the risks you perceive
* what is the assumed worst case scenario
* what buffers are required
* exit strategies employed as attitude to risk changes
* any adjustments that may be necessary if worst case scenario happens
* is any active time/effort required (in retirement) to monitor/adjust anything

This was all covered!


  • Perceived risks: the market goes up or down so spend accordingly.
  • Buffers: as set out above and amounts to match SANF
  • Exit strategy as risk changes: move asset classes about, more towards lower returns to lower the risk and more towards higher returns to increase the income.
  • Adjustments and worst scene / best scene!! scenarios: The buffers should see you through it all. If they do not, then it is highly probable that even the most conservative approach would not have sufficed either. (0% cash rate in Japan for many years). On the other hand when it is working really well (Best scene scenario) then you buy the boat and Ferrari that the conservatives can only dream about.
  • Active effort: Sure there is . . . one should always actively monitor their portfolio no matter how conservative / aggressive it is. If this is a hassle get a good planning organization to do it for you. (I can recommend you to one that specializes in DCT :D)
Keithj said:
Have you considered approaching it with the end in mind?

Sure have, but I consider a percentage risk assessment to be too subjective in outlook. I have always found that clients find real figures in today’s dollars easier to understand rather than probabilities.



Keithj said:
You have chosen to put 50% as cash & leave 50% in Residential IP returning 3%. Didn't the previous chapter use 4.5% gross yield?
I at all times mentioned 4.5% Gross and 3% net. I also always pointed out that where I used 4.5% gross that the passive income will need to pay the expenses, so it’s the same thing. However to make things clearer so that we could clearly understand what the income from an unencumbered property portfolio is, I used 3% net. (Or else some might have thought that the gross rental return of 4.5% was net income result.)



Keithj said:
It’s easy for everyone to be blinded by the fact that on average they’ll have an extra $113,750 pa mostly tax free. However, some years they’ll have nothing (that is absolutely $0,zilch, zero) & some years they may have many times that. This is volatility. Can you explain volatility relates to this outcome?
Not entirely true: there will not be some years of “absolutely $0,zilch, zero”, there will always be the passive income generated by the portfolio that is not of a CG nature. (Rent, dividends, distributions and interest on cash)



Volatility is GOOD!! (For CG)


  • It creates value opportunity with shares. - To buy and sell
  • It creates value opportunity with property – To lock in value in your LOC / Offset account when the valuers think the market is high and to use this locked in value when the market is actually low.
Volatility can be bad for your income stream:

You can risk manage (overcome) this risk by:


  • Sufficient buffers
  • Guaranteed income streams (Cashbond)
  • Diversification: rent, dividends, distributions, interest, LPT’s . . . and however many you might choose. (Note: Distributions are dependent on Volatility so this creates a great balance amongst the other income methods)
I think this is enough: I find discussing this topic very rewarding, but at the risk of severe typing cramp.



More questions? (Come to a structure course) :p:p




Regards,



Steve :)
 
Last edited:
Steve Navra said:
I find discussing this topic very rewarding, but at the risk of severe typing cramp.
And a lot of rewording as well.

Thank you for all your patient explanations Steve- well done.
 
Steve Navra said:
Feedback is welcome, it will help me with tidying up some of the explanations.

I apologise in advance if this has already been asked or answered, but the thread is now very long! :rolleyes:

I am just wondering where you got the 2/3 figure for the amount of equity one can use to live off of. Has this figure been discovered from experience? i.e. Why not 75% or 23.54356346%? :p

Thanks in advance. :)
 
Hi all,

Steve's quote
"When the market is low we may well be 100% in shares, but this doesn’t stop the trades which are short term fluctuations."

If the fund was 100% in shares, and the shares in the "bluechip" portfolio continued to fall another 20%, How would the fund purchase the extra shares??? borrowed funds??
What if the market fluctuated around a level 20% below when the fund was 100% invested??? What if net redemptions were occuring at/near the level of 100% invested while the market continued to fall??

Can't happen??

Someone else may have to ask these questions though. I think Steve has decided to ignore me.

bye

P.S. My personal opinion is that the possibility of such bad trading conditions for Steve's fund are extremely unlikely, however at even a 5% chance the probability is too great for me.
 
Bill.L said:
Steve's quote
"When the market is low we may well be 100% in shares, but this doesn’t stop the trades which are short term fluctuations."

If the fund was 100% in shares, and the shares in the "bluechip" portfolio continued to fall another 20%, How would the fund purchase the extra shares??? borrowed funds??
What if the market fluctuated around a level 20% below when the fund was 100% invested??? What if net redemptions were occuring at/near the level of 100% invested while the market continued to fall??
If the fund was 100% in shares and the market dropped 20% then like any other fund, we would endure the decline. As we were 100% in the market we would not be able to buy more, BUT THE FLUCTUATIONS AND THE TRADING CONTINUE!!

It is the extra value obtained from trading the volatility that adds value . . . so it doesn't matter: 20% up or 20% down this value adding effect continues.

Redemptions?
Same as any other fund.



Bill.L said:
Can't happen??
Can happen, but when you understand DCT, it DOESN'T MATTER.



Bill.L said:
I think Steve has decided to ignore me.
You got this right! (See we do sometimes agree.)



Bill.L said:
My personal opinion is that the possibility of such bad trading conditions for Steve's fund are extremely unlikely, however at even a 5% chance the probability is too great for me.
Well exactly, so choose a portfolio that matches your own risk profile and allow the rest of us the courtesy of making our own choices.

Thank you very much.
 
Wow! What a great thread! That was a lot of information! It toolk me a little while to digest, but with the help of attending the course last Saturday, I can now clearly see how it can all happen.

I am looking forward to meet Steve and start implementing some of theses strategies in our own portfolio.

Thanks for the long posts and the patience Steve. This has clarified a lot of things for me.

Cheers,
 
Hi,

Steve: Wow! I'm very appreciative of you spilling your brains over and over again on these forums. Its great, seems more and more people finally see the light each time. I wonder how many times you'll need to do it? :p (im also glad i have a scrollwheel mouse :p)

After seeing your structure course in Perth a little while ago now, I decided it's the right route to go albeit higher leverage on some parts and lower on others, and a buffer to keep me alive for a couple of years in case one of the events people have mentioned in this thread happens.

However I think another round of SIG and possibly MIG will include an evening

So when are you coming to PIG? :D

Pete: A mob called Leveraged Equities, i think from Adelaide, are the only ones that I can find the navra fund on an approved shares/funds list (70%). If there's any other lenders who approve it, Im sure Steve could point us in the right direction.
 
dtraeger2k said:
Leveraged Equities, i think from Adelaide, are the only ones that I can find the navra fund on an approved shares/funds list (70%). If there's any other lenders who approve it, Im sure Steve could point us in the right direction.

Also:
BT
Colonial
St.George (Soon :) )

Regards,

Steve
 
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