An Interest on Interest Rates

The Federal Reserve (known as the Fed), which conduct the monetary policy of the United States, had just announced an interest rate hike of 0.25%, with the possibly of another three more hikes in 2017¹.

For The Bedokian Portfolio investor, such information is important in the conduct of fundamental analysis (FA). Interest rates belong to the economic conditions category, the highest level of FA, meaning any changes to it will have some effect across some, if not most, financial markets.

The Link Between United States (US) and Singapore Interest Rate

Singapore, unlike the US, does not set its own interest rates. Instead, they are determined by the US interest rates and expectations of the Singapore Dollar’s movement.² In other words, this means there is a high correlation in direction and movement between the US’s interest rates and Singapore’s. Hence this is the reason why local investors and traders are so interested in what the Fed says about interest rate hikes.

Effects of Higher Interest Rates on Asset Classes

Assuming all things equal, a higher interest rate means higher borrowing costs, which in turn will eat into the profits of companies and REITs, therefore potentially giving a lower dividend yield. Bonds are negatively affected, too, as there is an inverse relationship between interest and coupon rates. Commodities, a non-yielding asset class, would take a beating as well since investors would pull their funds away from them and look for something with more returns. The cash asset class stands to gain from all this, since the rise of interest rates would imply a rise in fixed deposit and savings account interest rates.

So What Now for Bedokian Portfolio Investors?

After almost a decade of ZIRP (Zero Interest Rate Period), the economy and the financial markets are adjusting to the return of this major economic indicator. Your FA should take the points stated in the previous section into consideration when researching on individual equities, REITs and bonds, among other factors. Still, it is imperative to look at your portfolio as a whole and rebalance it according to your preferred asset class allocation, whether you are doing the passive or active approach.

1 – Robb, Greg. Fed raises interest rates and adds another hike to its 2017 forecast. MarketWatch. 14 Dec 2016. http://www.marketwatch.com/story/fed-raises-interest-rates-and-adds-another-hike-to-its-2017-forecast-2016-12-14 (accessed 28 Dec 2016)

2 – Williams, Ann. 10 things you should know about Singapore’s monetary policy. Straits Times. 13 Oct 2015. http://www.straitstimes.com/business/economy/10-things-you-should-know-about-singapores-monetary-policy (accessed 28 Dec 2016)

Putting The Bedokian Portfolio to the Test

After much promotion and ramblings of The Bedokian Portfolio, I have decided to put it to the test.

  

To make it more personalised, let us name the owner of the portfolio as Bob. Bob had finished reading The Bedokian Portfolio and would want to use SGD30,000 earmarked for investment to implement it. He would start off as a passive investor and concentrate on the local market, but as time goes by he would be taking on a more active role and venture into overseas markets.

Once in a while in this blog, I would be sharing Bob’s thinking and analysis on certain investment decisions and transactions, with guidelines from The Bedokian Portfolio.

I will be using an online portal called SGXCafe to do up the demonstration Bedokian Portfolio. It is a good site to tabulate and record your investments and/or trades on a portfolio basis. 

Why not use my own Bedokian Portfolio, you may ask. There are a couple of reasons why: Firstly, I want the demonstration portfolio to start off from a clean slate; mine was not, since I had transited from a trading portfolio to an investment one over the course of some six months. Secondly, I would want to use a portfolio that new investors could relate to, and for seasoned ones looking for an alternative methodology.

The demonstration portfolio will start on 3 Jan 2017, the first market-trading day of the new year, so do keep a lookout.

Last but not least, the usual disclaimer applies, and being a long-term investment, there may not be changes for weeks or even months in the portfolio. The Bedokian Portfolio’s time horizon is at least 10 years¹, so please bear with it.

1 – The Bedokian Portfolio, p viii.

SRS and The Bedokian Portfolio - Part 3

In this final instalment, I will share some tips on how to administer your Bedokian Portfolio with the SRS funds factored in, using the three methods that I had shared in my previous posts, namely separate portfolios, joint portfolio and core-satellite.

Separate Portfolios

Basically this means your usually-funded (i.e. Bedokian Portfolio funded with your disposable income) and SRS-funded Bedokian Portfolios are treated separately and mutually exclusive (i.e. not mixed with each other). Each has its own asset class allocation. Dividend/coupon/interest payments from each portfolio will go back to the same portfolio, and cash injections would be allocated between the two.

The main advantage is that you have flexibility and control; you can dictate which portfolio is to provide you passive income at which stage of your life. It is natural given that the usually-funded Bedokian Portfolio could start providing you passive income at any point in your life when you want to retire, whereas the SRS-funded one would, barring any other circumstances, provide you once you hit the official retirement age.

The main disadvantage would be the extra administration required on handling the two portfolios. Hence, at the get-go, you would start the record keeping as in the transactions and holdings between them. As a rule of thumb, it is better to have an individual counter in one portfolio and not to straddle it between the two. This is to prevent confusion such as trying to know how many of Company A’s shares are in which portfolio.

Joint Portfolio

For joint, your usually-funded and SRS-funded Bedokian Portfolios come under one big happy family, which means your asset class allocation and rebalancing would be across the two funds. The big plus would be ease of management, since it is one single portfolio, although you still need to know which asset class/financial instrument/individual counter belongs to which fund.

One of the big minuses would be to “balance” the asset class allocation between the two. It is recommended not to put one entire asset class into one fund, say the whole REIT asset class to your SRS account, for it is difficult to manage rebalancing and subsequent drawdown. Another minus is on the drawdown management; unless your planned retirement coincides with the SRS’s retirement age, you will need to liquidate your usually-funded portion in The Bedokian Portfolio first before going into the SRS-funded part.

Again, as a rule of thumb, do not mix shares/bonds/units/ETFs of an individual counter between the two funds.

Core-Satellite Approach

The good thing about the core-satellite approach is that it blends the best of both the separate and joint methods. The SRS part could be filled with ETFs, while the usually-funded part is consisted of individual equities/REITs/bonds/commodities.

The following pie charts best illustrate the core-satellite for separate and joint Bedokian Portfolios. The asset class allocation used in the examples is based on the balanced Bedokian Portfolio (i.e. 35% equities, 35% REITs, 20% bonds, 5% commodities and 5% cash).

Fig 1.1 - Separate Portfolio, using SRS funds as Core.

Fig 1.2 - Separate Portfolio, using usually-funded as Satellite.

Fig 2 - Joint Portfolio, with Core (ETFs) using SRS funds and Satellite (individual counters) using usually-funded.

With this core-satellite combination, you could clearly see the potential ease of administration in terms of rebalancing or even during drawdown. There is a clear separation of ETFs and other individual counters, and there will be no headache in determining which cash payout to go to which fund.

A Reminder on Tax

As stated in my previous post, do note that withdrawals from your SRS fund are subjected to tax, so remember to look out for and consider the latest information and news pertaining to the tax laws and SRS regulations.

The Bedokian’s Take

I would prefer the separate portfolio arrangement. The very nature of these two funds is different. Both have differing objectives (SRS is meant to be withdrawn after retirement age, while the usually-funded portfolio passive income would start once I am ready to retire) and underlying framework (rules, regulations, or the lack of).

A concept which I am working on is the “portfolio multiverse”. Using an analogy from astronomy and quantum physics, I would classify every portfolio (like The Bedokian Portfolio) as a universe, and the other portfolios (e.g. SRS-funded Bedokian Portfolio, CPF, trading portfolio, etc.) as other universes combining into one multiverse working in the same direction. Perhaps this may be a subject for my future posts and probably even a new book.