Our 2021 Portfolio – Millennial Revolution

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What a year 2021 has been. A new US president. An attempted coup in Washington. The development of a miraculously effective vaccine in record time and the start of the largest global inoculation campaign in history, only to be derailed by a new super infectious variant just as the end of the pandemic looked to be in sight.

To say it was all a bit head-spinning would be a massive understatement. Let’s take a look at how all this news has affected our investments.

Rising Economies Lift All Portfolios

Even though all we can think about right now when it comes to 2021 is the resurgence of the pandemic, we have to remember from the stock market’s perspective that the vast majority of 2021 was focused on two events: Mass inoculation of the world’s developed economies and those economies re-opening as a result.

U.S. unemployment levels peaked during the height of the pandemic at 15% in March 2020 before beginning it’s slow inexorable march back down, hitting just under 4% at the end of 2021. A similar trend occurred up here in Canada.

And while world events like the January 6 insurrection and the arrival of Omicron definitely provided plenty of anxiety along the way, the fact of the matter is that the world economy was so sucky at the end of 2020 that it was hard for stock markets to go down any further.

So instead, they went up!

In 2021, the US Market led the global economic recovery, increasing a stunning 28%!

The Canadian TSX did similarly well, popping up for a total 25% gain for the year.

The MSCI EAFE (Europe, Australia, Far East) Index was the big laggard on the equity markets this year, increasing by “only” 11%.

So basically, everyone who invested in equities this year made money. No matter what index people chose, it went up, with the USA-centric investors doing the best.

Bonds, on the other hand, were another story. In an advancing stock market, it’s actually expected for bonds to go down as bonds tend to move in the opposite direction of stocks, and this year was no different.

One rather interesting side story to all this is the Canadian Dividend Index that we track through the ETF PDC. This ETF is the last of our “Yield Shield” assets, and concentrates their holdings on banks, insurance companies, utilities, and other high-quality companies that pay above-average dividends. These companies were also the ones that were affected the most when our banking regulators forbade dividend increases in 2020, so when those regulations were removed, big dividend increases were announced by all our major banks, and this was reflected by PDC’s over-performance this year, clocking in a stunning 30% gain for the year, beating even the US Market!

Put it all together in a 75% equities/25% bonds allocation and we got a really solid 15% overall performance on Portfolio A!

Portfolio B went up even higher, clocking in at 45% for 2021, but as always it’s not a particularly useful number since a) Portfolio B is invested more aggressively than Portfolio A and b) we added money over the year so part of that gain is new cash.

Put it all together and that means our overall net worth went from $1,549,000 at the end of 2020 to $1,841,000 in 2021, for a net gain of 19%!

And while I’d love to point to a decision that I consciously made in 2021 that resulted in these eye-popping gains, the truth is that everyone who followed the Investment Workshop and was fully invested at the beginning of 2021 would have had a similar result. The only material difference between our personal investment portfolio and the Investment Workshop is that we’re now at 75/25 while the workshop is 60/40 (our initial allocation when we first retired), but even 60/40 portfolios did well this year, clocking in at a respectable 12%.

The Yield Shield Works!

Long time followers know that in the FIRE space, we’re probably one of the most cautious early retirees out there. While many other FIRE bloggers were comfortable with a sky-high equity allocation of 90% or more and relying on continuously increasing stock markets to fund their retirement, we stubbornly stayed on a more conservative footing and kept our equity allocation at 60% for many years. We’ve also used the Yield Shield strategy coupled with a Cash Cushion to protect against having to sell anything during a down market. And now, as we enter our seventh (!) year of retirement, MAN are we glad we did that.

Since 2015, we’ve endured the Saudi oil crisis of 2015, two polarizing US elections, a government shutdown in 2018, and oh yeah, a global pandemic in 2020 that’s still ongoing. All these events injected massive volatility into financial markets, and if we were simply high-equity cowboys we would have had to sell at a loss at some point to fund our continued retirement. But because of all the systems we put into place, not only did we not have to sell at a loss, we were still able to participate in the inevitable recovery as our portfolio marched higher and higher.

That being said, the Yield Shield was never meant to be our “forever” portfolio. We were pure indexers when we were working, and our plan is to return to being pure indexers at some point in the future.

Turns out, that point may be now.

Because after I finished my year-end analysis of our 2021 portfolio, I came to a rather interesting realization: That the overall yield on our portfolio, even without any Yield Shield ETFs, was enough to support our spending going forward.

Here’s our asset allocations for both portfolios, along with each asset’s 12 month trailing yield.

Asset Weight Yield
Bonds 25.0% 2.41%
Canadian Index (TSX) 16.0% 2.70%
Canadian Dividend Index 9.0% 3.63%
US Total Market Index 25.0% 1.17%
MSCI EAFE Index 25.0% 3.20%

If we were to plug in our current portfolio value into these percentages, we realize that, when added, together, the yield we’d get from just holding them is greater than our entire 2022 projected budget!

Asset Weight Yield Projected Income
Bonds 25.0% 2.41% $11,092.03
Canadian Index (TSX) 16.0% 2.70% $7,953.12
Canadian Dividend Index 9.0% 3.63% $6,014.55
US Total Market Index 25.0% 1.17% $5,384.93
MSCI EAFE Index 25.0% 3.20% $14,728.00
  TOTAL $45,172.62

Now, what would happen if we were to eliminate the dividend index and combine it with the TSX?

Asset Weight Yield Projected Income
Bonds 25.0% 2.41% $11,092.03
Canadian Index (TSX) 25.0% 2.70% $12,426.75
Canadian Dividend Index 0.0% 3.63% $0.00
US Total Market Index 25.0% 1.17% $5,384.93
MSCI EAFE Index 25.0% 3.20% $14,728.00
  TOTAL $43,631.70

We’re still good!

In fact, what would happen if we were to increase our equity allocation from 75% to, say, 90%?

Asset Weight Yield Projected Income
Bonds 10.0% 2.41% $4,436.81
Canadian Index (TSX) 30.0% 2.70% $14,912.10
Canadian Dividend Index 0.0% 3.63% $0.00
US Total Market Index 30.0% 1.17% $6,461.91
MSCI EAFE Index 30.0% 3.20% $17,673.60
  TOTAL $43,484.42

We’re STILL good!

So despite our naturally conservative nature, the math is now telling us that we should make the following changes to our portfolio in 2022…

Return to Pure Indexing

While our Yield Shield strategy has worked out brilliantly, we’ve been gradually divesting ourselves of these alternative assets for a few years now as the need for the additional complexity has receded, and now it looks like it’s time for our Dividend Stock Index to ride off into the sunset for its well-deserved retirement.

We probably won’t do this right away because I still think there are more outsized dividend increases that are going to be announced over the next few months, which will benefit the Dividend Index in both yield increases and capital gains, but once that’s over and the market has fully digested the news, I think it’s going to be time to merge our final Yield Shield asset into the general index.

Once this happens, we will have fully returned back into our old portfolio strategy of being pure indexers, and I for one couldn’t be happier. Not only will this reduce our overall portfolio fees (PDC has an MER of about 0.56% compared to the pure index MER of just 0.06%), it reduces our portfolio’s complexity. After this is done, our Portfolio A will consists only of 4 ETFs: A bond index, the Canadian equity index, the US equity index, and the MSCI EAFE index. Just as we always intended.

I expect this move will happen sometime in the first half of 2022, and we will be sure to announce when that happens right here on this blog.

Eliminate our Cash Cushion

Another thing that we’ve been doing to protect against market downturns is keeping a cash cushion separate from our portfolio and our current year living expenses. If you recall from our book when we wrote about our “Buckets & Backups” strategy, we determined how big this cash cushion should be based on the difference between our portfolio’s annual yield and our upcoming year’s spending expectations.

We generally like to keep enough in our Cash Cushion account to cover 3 years of down markets, so the formula for this amount is the following.

Cash Cushion = (Upcoming Year Budget – Yield) x 3

When we first left, our annual budget was $40,000. And when we left, all our Yield Shield assets were going at full strength, bringing our yield up to 3.5%, or $35,000 on our initial $1,000,000 portfolio. That meant that we kept ($40,000 – $35,000) x 3 = $15,000 in our Cash Cushion.

But now that our investments have grown so significantly, our yield (even without Yield Shield assets) is sufficient to cover our living expenses completely (which have, due to FIRECracker’s meticulous tracking, remained at $40,000). That means that according to the same formula, our Cash Cushion requirement is now $0.

We no longer need a Cash Cushion, which is great since it’s one less thing I need to keep track of going forward.

Increase our Equity Allocation

And finally, the math is now telling us it’s time to cowboy it up. After all, if our living expenses are covered by yield, then we really don’t care much about market volatility anymore. Even if dividends take a 10% hair cut like they did during the 2008/2009 financial crisis, we’d still be fine. And as FIRECracker likes to point out, if things got as bad as they did then, our expenses would drop as well, which they absolutely did during the pandemic.

So…I think it means we should increase our equity allocation to 90%!

It feels weird typing that out, since I’ve spent most of our retirement looking at those 90%+ equity cowboys and going “That’s way too risky.” But you can’t really argue with the math, can you? If market volatility no longer affects our ability to pay our bills, then it no longer makes sense to use bonds to reduce it.

That being said, I think I’m going to stick with a max equity ceiling of 90%. After all, if we go 100% equity, then it eliminates any rebalancing opportunities when stock markets take a dive.

Conclusion

2021 has been an absolute roller coaster, but as it turns out everyone who followed our Investment Workshop has seen their portfolios go up by at least double digits. We’ve achieved a lot together on this weird little blog of ours, but if there’s one thing I’m definitely proud of, it’s that we helped make our readers a lot of money, and this year has been one of the hottest ones. I don’t know what’s going to happen 2022, but to everyone reading this and followed our advice, give yourselves a pat on the back for doing the right thing.

Pop yourself a bottle of champagne, people. You’ve certainly earned it.


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