Financial Independence Progress Report for April 2016

April is a slow month for dividends in my portfolio. But, after a couple months of no paychecks, seeing regular paychecks in April was such a joy! In celebration of that, I pumped a couple hundred dollars into making sure that future paychecks via dividends are a certainty ūüôā

Lets look at the numbers now.

Emergency Fund ($72K) 100.0% 100.0%
College Fund (80K) 39.33% 41.25%
Passive Income Streams ($4000 pm) $544.13 pm (04/2015) $509.15 pm (4/2016)
Retirement Fund ($900K) 57.96% 61.08%
Roof for our Family($750K) 00.00%
Medical Fund 00.00%
Life Insurance Done (term life insurance payments initiated)

Main Takeaways this month

  • Portfolio changes continues this month….
    • I wrote about my Capital Gains¬†gut check here. As part of that exercise, I divested all my holdings in VTCLX (Vanguard Tax Managed Capital Appreciation) and VTMSX (Vanguard Tax Managed Small Cap).
  • Additions to my new investment vehicle…
    • Last month, I initiated a position in¬†Vanguard Intermediate-Term Tax-Exempt Fund Investor Shares (VWITX). I wrote about it in my March Progress Report.
    • I took all the money from the sale of VTCLX and VTMSX and moved them into VWITX.
    • The gains are Federal Tax free and AMT (Alternative Minimum Tax) free as well.¬†I would still have to pay CA state tax for VWITX though.
  • Dollar Cost Averaging
    • Did not have cash to dollar cost average (DCA) my funds this month…but I did boost my investments to dollar cost average VTMGX (Vanguard Developed Markets Index Fund….my non-US¬†exposure mutual fund). I want to have some of my passive income streams to not come from US companies. VTMGX diversifies my passive income streams to include companies from Greater Europe, Greater Asia and Canada.
  • Passive Income Stream
    • Passive income for April¬†2016 ($1016.87) broke¬†the positive trend of current year month winning over previous year’s month as April¬†2015¬†($544.13). Hmm….
      • ….this was expected as my¬†portfolio changes led to a some days where my money was not working for me…a gap of a couple days between closing of accounts and moving them into new accounts.
    • I compute Passive Income per month as (total passive income in this year) / number of months completed this year.
      • Total passive income is a sum of dividends + capital gains distributions.
      • April¬†Passive Income = (total passive income in this year) / 12 == $201.98 which beat the 2015 April number ($172.40 per month)
      • Doing it this way keeps the monthly passive income more realistic because I can instantly know which of my monthly expenses are covered by this amount. I keep a separate tracker for this which I will write about at a later date.
    • My intermediate goal is to get $1000 pm in passive income first. My estimation for 2016 is that I will reach $750 pm. Lets see if I can push it some more ūüôā

Capital Gains Investing…a gut check

Kevin O’Leary…

In my on-going search for increasing my knowledge about all things finance, I recently came across Kevin O’Leary of the Shark Tank fame. More precisely, I came across a quote he made in this video. The statement he made was this: I¬†would never buy a stock that doesn’t pay a dividend. Whatever you think of Kevin O’Leary as a person, it is worth thinking about the statement. This post is about my thinking process and what actions I took w.r.t. my portfolio.

My Capital Appreciation investment

When I started my journey towards Financial Independence in late 2014, I wrote about the design principles behind my Passive Income streams and how I implemented the design. One of the design principles is this: Invest some money in Capital Appreciation (high risk) buckets. I called this bucket the lottery ticket investments. The implementation of this bucket was done via two Vanguard Mutual Funds.

  1. Vanguard Tax Managed Capital Appreciation Fund (VTCLX)
  2. Vanguard Tax Managed Small Cap Fund (VTMSX)

If you look at the funds, they are excellent in many¬†ways…

  • both Morning Star gold rated and¬†tax efficient.
  • both minimize dividends and maximize capital gains…hence tax efficiency.
  • both have an awesome track record in prior years

But, for the past four months or so, these two funds stood out whenever I did a Cost Basis analysis in my account. Let us consider VTCLX for example. Since 2014 when I started funding my Passive Income Streams, I have accumulated appx $12,000 in my VTCLX account. If I do a Cost Basis analysis i.e. how much money I invested vs how much is the current market value, here are the nos:

  • Total Investment: $12, 000
  • Today’s Market Value: $12,300
    • All dividends, however small, have been re-invested
    • Includes all capital appreciation
  • Excludes any taxes I paid on the dividends

Damn….Kevin O’Leary time again….

Yes. Only $300 total return i.e. a 2.5% total return, even excluding taxes. Similar numbers for VTMSX. This is where Kevin O’Leary’s statement bugged me. In one of the few interviews I watched of him, he said something like: if I am giving my money to a company, I expect a decent return….a return comparable to the risk I took on.

Painful Questions…

So, I asked myself this question: for the risk of investing in funds whose Beta is > 1.0 i.e. funds that are more riskier that the market, I got a 2.5% total return. This is pathetically low in my opinion. But, lets argue that 2 years (2014 to 2016) is a very small investment window. Then comes the scarier question: what kind of return can I expect in the years going forward? Here is why I think this question is scary:

  • S&P 500 is at historically high P/E ratio (inflation adjusted p/e)
    • ¬†I.e. room for capital appreciation is pretty low
  • Dow Jones Industrial Average is also at historically high P/E ratio (charts)
    • I.e. room for capital appreciation is pretty low
  • Nasdaq composite is also at historically high P/E ration (charts)
    • Higher than the 2000 dot-come bubble!
    • I.e. room for capital appreciation is pretty low

For a moderate risk taker¬†like me, the data is showing me that there is not much room for capital appreciation. Note that Google stock went from $550 per stock to $750 per stock from 2014 to 2016, but also note that VTCLX has google stock ūüôā So, it must be that there were many stocks that dragged it down. But, I do not dabble in individual stocks…I prefer the risk diversification and passive nature of mutual funds.

It gets even worse. I plotted a graph of Vanguard Intermediate Term Tax Exempt MUNI fund (VWITX) and an investment here could have easily beat VTCLX over the last two years. So, if we assume that the room for capital appreciation is low, then it looks like I made a very inefficient¬†investment by choosing capital appreciation vs cash flow.¬†Now for the all important question: Why ūüôā

Why why why…

I have realized that I missed a fundamental point in my analysis of investing for capital appreciation and passive income streams.

  • Achieving capital gains implicitly implies that one must identify an under-valued asset that can multiply its asset value over time.
    • For example, if I had bought Google stock in 2014 at $550 for one stock, I could sell it today at $750 per stock i.e. $200 worth of capital appreciation.
  • If every market index (S&P, DJIA, Nasdaq, etc) is at historically high P/E, there is not much room to find value in stocks
    • Vanguard folks are good but they are not magicians¬†hey ūüôā
  • If finding under-valued assets is the foundation of capital appreciation, then¬†perhaps I should have invested in a product whose primary focus is Value investing.
    • For example,¬†Vanguard Value Index Fund Investor Shares(VIVAX) is one such fund.¬†But, between 2014 to 2016, the appreciation here too is minimal.
    • If experts who sole job is to find value have not been able to do it, then what hope is there for an amateur like me?

So, my fundamental premise for investing for capital appreciation in my taxable account passive income streams was a broken one.

  • Note that I am not saying that capital appreciation¬†approach is broken. Maybe VTCLX has accumulated many under performing assets whose value will become apparent after a bust-boom cycle. Or maybe a balanced approach across capital appreciation and current income like in Vanguard Equity Income Fund (VEIPX) is the way to go, but this fund is not tax efficient for folks in the higher tax brackets.
  • So,¬†for an investor like me who is in the search for tax-efficient income on the path to financial independence *at this point in my life*, investing in capital appreciation at current high market evaluations does not seem like a wise decision.
  • I have a lot of money riding on a total market strategy in my tax-advantaged accounts i.e. there is sufficient skin in the game riding on a capital appreciation strategy. But the time frame for my tax advantaged accounts is more than 20 years i.e. enough time for a boom+bust cycle. But, in my passive income stream bucket, my time frame is appx 10 years and I do not see a place for capital appreciation investing, at current market evaluations.
  • If markets take a deep and I see value in VTCLX or VTSMX, I will dive right in….lets see what the future holds.

Portfolio Changes

I cashed out VTCLX and VTSMX (teeny weeny gains) and moved the money across the following buckets

  • Vanguard Intermediate Term MUNI fund (VWITX)
  • Vanguard Dividend Appreciation fund (VDIGX)
    • Qualified dividends i.e. taxes capped at 15%
    • Dividend appreciation¬†potential…a conservative¬†investor’s¬†substitute for capital appreciation ūüėČ

Dollar Cost Averaging…my way :-)

I was reviewing the performance of my portfolio for 2015 when I realized that I had used Dollar Cost Averaging (DCA) quite a bit this year. The markets have fluctuated wildly in the last few months and my anticipation is that it will be the same in 2016 as well. Dollar Cost Averaging (DCA) is what I used to smooth out the fluctuations in 2015. I have a couple different ways of implementing¬†DCA…so, I thought it would be nice to write about it and see if my blog friends have any input.

DCA Type 1

My path to Financial Independence is to generate multiple passive income streams using a diversified set of mutual funds (link). For example, VCADX, VTMFX, VDIGX, VHDYX , VTMGX, VTCLX and VTMSX. Investments into the different funds are automated and are withdrawn on the first of every month. Regular investments, irrespective of the short term market fluctuations was my initial plan for DCA.

But, I realized that when the market went through downward dips, my DCA plan was found a bit lacking. For example, if the dips were spread across many days in the month, my DCA plan of investing at the beginning of every month would miss out on loading up quality investments at lower prices.

So, I spread my mutual investments into two pieces for each mutual fund, and spread across many non-overlapping days in the month. Since Vanguard does not charge me a fee to invest into mutual funds, I felt that this spread captured the market ups and downs better. For example

  • VCADX ¬† ¬† ¬† ¬† ¬† 9th and 28th
  • VTMFX ¬† ¬† ¬† ¬† ¬† 6th and 27th
  • etc

DCA Type 2

But, I saw one more pattern in the  market. Market dips in the downward directions were followed by upswings the next couple of days. For example, if DOW dropped 300 points on one day, it is rare to have a similar drop on the next day as well i.e. consecutive market dips were rare. On the days the DOW (or S&P) dipped badly, there were opportunities to invest in my chosen high quality mutual funds at a lower price.

Every month, there used to be some leftover money in the budget for unused items. For example, if we did not use the entertainment portion of the budget completely OR if my kids school was off leading to less frequent visits to the gas pump, etc. I decided to pool up the leftover money and keep the cash ready. When ever the DOW dropped, I pushed the money into one/many of my investments. Here is the algorithm I followed:

  • DOW drops 100 ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† Invest $100
  • DOW drops 200 ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† Invest $250
  • DOW drops 300 ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† Invest $500
  • FTSE 100 drops 100 ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† ¬† Invest $200

Since I invest in mutual funds, the smart reader may ask how do I know what the NAV will be before the marker closes on that day? An ETF or a raw stock trade will guarantee as close to the instantaneous market price as possible…a mutual fund cannot. Here are some lessons I learnt assuming the¬†Market closes at 100pm Pacific Standard Time

  • DOW dips 100 at 900 am, I invest $250 and DOW rises by¬†200 by 100 pm i.e. I invested $250 at a higher price than what my intention was.
  • DOW dips 300 at 1100 am, I invest $250 and DOW rises by 200 by 100pm i.e. DOW is still down -100 and my investment pays a lower price.

The reader might have guessed. My basic idea is that “higher the DOW dip, the earlier in the I can invest and still come out with a lower NAV¬†price than the previous day”. I.e.

  • If DOW is only down 100 points, I buy¬†late say around 1200 pm.
  • If DOW is¬†down 300 points, I buy earlier say around 1100 am.
  • Any investment after 1230pm or so is moved to the next day.

This method of DCA has proven very beneficial to me to acquire quality assets at much lower prices…inspite of using mutual funds.¬†Some people might say that I am using market timing and it is bad. But, since my investments are¬†quality investments, chosen conservatively, I do not lose even if I paid a higher price because my purchase timing did not meet my expectations.


As per my 2015 Goals (link), ¬†my Passive Income Streams¬†goal for 2015 was $16000 with a stretch goal of $24000. Using a combination of DCA types 1 and 2, I have managed to¬†exceed the stretch goal also with a total investment of¬†$28,000 approximately. Believe it or not, I did not know that all the DCA Type 2 investments would add up to so much more money at the end of the year. This indirectly¬†means that my budget is tuned for the worst case money consumption and some more fat can be extracted from it. But, hey, who is complaining ¬†ūüėČ