Grandparents are reportedly stepping up to the plate in droves to help their kids buy housing and pay school fees for the little ones. In the February 2014 issue of Professional Planner, I introduced my new plan to benefit my grandkids. It involves gearing into the S&P 500 and the ASX 200. I’ll focus on the former in this piece.
The concept is simple – buy low and sell high. The innovation is the way in which the low and high signals are forecast. I use my broker-based forecasts of dividends and earnings to make a capital gains forecast for the year ahead, and my Bayesian volatility forecasting model to put a range estimate around those forecasts. I’ve published these forecasts on my website as I have updated them.
At the time of writing, the S&P 500 had just recorded its eighth successive quarter of positive capital gains. So it would have been hard to lose over that period – especially in an ETF designed to mimic that index! Is the extra effort worth it?
I’ve plotted my financial-year forecasts in Chart 1. I also do calendar-year updates but including them in the chart would make it too complicated to view. Although I was all ready to go in mid 2014, I had to wait until mid-October 2014 for the first buy signal (where the blue line dipped below the green dotted line). Financial year 2016 presented more buying opportunities but there were no sells during that period.
Chart 1: S&P 500 and forecasts
Source: Thomson Reuters Datastream & Woodhall Investment Research
I had pre-planned what I wanted my maximum gearing level to be – and I reached that by March 2016 (when the index was at its lowest, at around the same entry point as October 2014). The problem I then faced was that I was not going to be able to take up any new opportunities to buy.
The buys in financial year 2016 had a sell at 2490 (the upper purple dotted line). While new sell signals were introduced over time, I deemed it prudent to bring the gearing ratio down a little in September 2017, when the index breached 2500. The realised capital gain on that trade was more than 25 per cent but, more importantly, I now have a nest egg of home equity ready to pounce on the next dip!
With the Federal Reserve balance sheet repair, the upcoming appointment of the new Fed chair and the Trump tax policy all looming large, it seemed time to move by acting on the 2015-16 sell of 2490.
I had gone from 100 per cent unhedged (currency) from inception to mid-March 2016, when I went to about two-thirds currency-hedged. I used the sell trade to unwind some of the hedging – back to about 50 per cent.
My original purpose for this strategy was to fund the education of my grandchildren. It’s still about seven years before the first goes to senior school. With a couple of years worth of school fees already under the belt and about six ‘unrealised’ years of fees, the strategy is on track. One grandkid is more than accounted for, so only two to go!
Going forward, I’m estimating that the strategy now only needs to make just less than 2 per cent a year (including dividends) after inflation, tax and interest, to fund all three senior educations. Having had a great start obviously helps but in a 20-year period, having one or two good runs is not abnormal. Tax is less of an issue for the semi-retired gliding into full retirement.
But is this strategy for everyone? Of course not! It is vital to have a cash flow to support the strategy through interest rate hikes and bad markets. The key is starting early and getting this or any other strategy aligned with your tax situation and legal will. At all times, I am risking only a modest amount because I have an exit strategy.
I will wait patiently for the next downturn to get that gearing ratio back up a fraction – or, of course, I’ll be ready to take more profits should that occur first.
As for the half of this strategy that involves the ASX 200, it has not done as well. Nevertheless, that portion made 6.7 per cent a year, excluding franking credits, tax and interest. So it is still making a positive contribution. And who’s to say the ASX 200 won’t have a run?
See articles by Ron Bewley in the December 2014, June 2015, December 2015, February 2016 and April 2016 editions of Professional Planner for previous updates on this strategy.
