The widow/widower's portfolio
Inspired by Steven Bavaria's identically named list
Legend:
As with all pages the ‘✙’ sign is there to warn you/put in a “first do no harm” designation notification. Remember the disclaimer here.
A ‘do not pet that dog 🐻’ notification means you should stay the hell away or completely distrust whatever that product/security/site/external piece of advice is. It could also mean: “Don’t be dumb” To understand where the ‘do not pet that dog’ reference comes from watch this video here: link
Today’s post is more about CEFs. In future posts, I might delve into business development companies (BDCs) and/or real estate investment trusts (REITs) but today we’ll stick to CEFs with a focus on cash flow (not so much on appreciation). It should go without saying, but this post (like all of my posts) is not intended to provide investment advice, you are solely responsible for your actions. Investing comes with the risk of loss, and you are responsible for any due diligence conducted.
In Steven Bavaria’s “The Income Factory” he discusses a “widows and orphans” portfolio. Something designed to be relatively passive and long lasting by design (we hope anyways). He also has posted a variety of articles in the past on such portfolios and their performance, such as here.
I’ve assembled a similar portfolio for someone recently and combined it with a tool called M1 (which you can see here) for automation. M1 is something I’m trialing out for people who don’t like hands on managing their distributions and investments. It allows for automation of distributions back into your portfolio and can automatically rebalance so no one security or investment takes up too large a chunk, if that’s what you want.
The portfolio I’ve assembled (for someone who will remain anonymous but doesn’t like hands on management) is as follows:
^ The average of those distribution yields taken together is 8.80% annually (as of May 2nd when I drafted this post originally). Because CEFs sometimes have return of capital (ROC) payments, and often do not appreciate in value over time, a rule of thumb I use is to tell people to reinvest 30% to 35% or more of the distributions back into other CEFs. In the case of this portfolio, that reinvestment would be done automatically using M1, and would be done in a way that automatically rebalances positions over time.
✙ Full disclosure: the approach I’ve outlined above is not what I use for myself (although I either have, or will in the future, own all the funds in this list at some point). I take a much more hands on approach since I’m more highly knowledgeable, and I utilize an investing approach that’s closely aligned with Steve Selengut’s “Retirement Money Secrets” book and methodology when it comes to the CEF part of the portfolio. I also own private investments and a variety of other things.
I’m fine with taking short term profits (and the taxes that come with them) in order to redeploy money faster. This gets to the concept of “velocity of money”. In particular, I am comfortable selling for a capital gain (even a short term one) if the gain is equal to or higher than the monthly distribution would have been (or a quarterly one divided by 3 to come up with a monthly figure, etc.). Essentially, I’m bringing that distribution “forward” early for reinvestment. You can read more about the concept of velocity of money here and here.
For me personally, in a bear market, if a CEF is up by 0.75% or more, I typically take profits. In a bull market it might vary, but I have a rule to always take profits if a CEF is up by 5% (and obviously if it was more I would also take profits in that scenario). I then redeploy that money into other CEFs that I have screened and keep an updated list of.
Even with a slight tax drag, in my view it’s worth it. (Keep in mind, you are generally paying taxes on distributions anyways unless it’s a muni related CEF like NVG - Nuveen AMT-Free Muni Credit Inc).
My view of this would change if I was managing a company like Berkshire with billions of dollars for a large variety of reasons. Also, selling in and out of positions on a relatively short basis doesn’t make sense if you have billions, since the act of selling securities in those amounts would make your position pricing shift as a result of the size of the sale. Think of it as piloting a speed boat vs an ocean liner. There are just certain things you can do with one you can’t do with the other, and you’re solving for different problems.
If your portfolio is very small (only a few hundred million dollars or less) then you don’t have to do what Berkshire is doing, because that’s not the problem you’re trying to solve for.
A few notes about the above portfolio:
DO YOUR OWN RESEARCH FIRST (these are not investment recommendations)
This portfolio is designed to produce cash flow that grows over time if at least 30% or more is reinvested. It is not designed to appreciate generally. (Although it may do so as a side benefit)
This portfolio (like all portfolios) will likely underperform investing in the S&P 500 index long-term. I wrote a post on index investing here. Generally, the problem being solved for is different from what I’m solving for with this ‘widow’s portfolio’. I’m trying to generate cash flow that can be used today for current expenses and still keep pace with inflation. In my view this portfolio achieves that. Although you technically may get more “in the long run” with an S&P 500 index portfolio, especially if you never sell any shares and don’t have any distributions that are taxable, it doesn’t produce cash flow. As a financial advisor told me once: “You can’t eat rate of return.” Remember too: You may think you can sell shares “anytime” and produce cash flow that way with an S&P 500 fund. But if you did that during a downturn… well… you would be dollar cost averaging in reverse, which would make you run out of money if you were retired. Not something I would recommend.
More on that last point: I don’t feel comparing your portfolio’s performance to “the S&P 500” with the goal of beating or matching the index is a useful thing to do. Why? Because it comes down to the problem you are trying to solve for. For most people, the problem they are trying to solve for is minimizing the risk they will run out of money. Further, the average person when it comes down to it needs only two things:
Cash Flow
Liquidity
CEFs produce plenty of cash flow by design, and although they are more thinly traded than other securities, are far more liquid than assets like a house or land. They also carry fewer frictional transactional costs, especially as of this writing when most brokerages charge no transaction fees.
One thing I like about CEF style investing (regardless of what exact method you choose to use) is that since CEFs regularly pay distributions, it has the psychological effect of insulating a person against downward price movements for their holdings. A CEF they hold could go down in value by share price, but still be paying the same (or very similar) distributions monthly. As long as the ability of the CEF to pay distributions is not imperiled, it makes little sense to sell it at a loss.
Well, that’s a wrap on that for now! If you’re interested and want to dig further, definitely read Selengut’s book and also Bavaria’s. They take different approaches, but both utilize CEFs.
A final note that I end all my posts with: If you want help structuring your cash flow, building your wealth, preserving your legacy, and protecting what you care about, contact me, and we’ll discuss how I can help you personally: here