Tuesday, June 8, 2010

First, no credit card debt and second, pay off non-deductible debt!

Generally the best returns are to pay off all non-deductible debt. First, credit cards, second, personal loans and third, home mortgage.

Better still, avoid credit card debt like the plague!!

Also, always save a hefty deposit on anything you might otherwise finance on a personal loan and buy what you need, not what you might like to have - saving $5000 before buying and buying a $5,000 cheaper car so you borrow $10,000 less can give you a substantial interest saving, particularly if you borrow over a shorter period (making higher repayments) as well.

Assume you have a debt of $1000.

To pay $200 of 20% non-deductible interest on a credit card debt of $1000 out of after tax earnings if you are on a 40% marginal tax rate you have to earn 333.33 (Amount to be paid divided by (100 – marginal tax rate) multiplied by 100: 200/(100-40)*100 = 333.33

To pay $150 of 15% non-deductible interest on a personal loan of $1000 (eg for a car) out of after tax earnings if you are on a 40% marginal tax rate you have to earn 250.00 (Amount to be paid divided by (100 – marginal tax rate) multiplied by 100: 150/(100-40)*100 = 250.00

To pay $100 of 10% non-deductible interest on a mortgage debt of $1000 out of after tax earnings if you are on a 40% marginal tax rate you have to earn 166.67 (Amount to be paid divided by (100 – marginal tax rate) multiplied by 100: 100/(100-40)*100 = 166.67

To pay $100 of 10% tax deductible interest on a mortgage debt of $1000 out of after tax earnings if you are on a 40% marginal tax rate you only have to earn $100.00 because you get a tax deduction and so don’t have to earn extra to pay the tax on the extra earnings.

In summary, the amount you have to earn to pay one year's interest on a $1,000 loan using the examples above is :
1. Credit card 20%: 333
2. Personal loan 15%: 250
3 Home loan 10%: 167
4. Investment loan 10%: 100

Another way of looking at this is to gross up the interest rate to a pre-tax rate:
1. credit card rate is 33.3%
2. personal loan rate is 25%
3. home loan rate is 16.7%
4. investment loan rate is 10%

So generally the greatest after tax return comes from paying off non-deductible debt, and it is worth ensuring that you have sufficient spare cash, even in very low interest paying accounts, that you never have to pay interest on your credit card.

This analysis can be complicated by taking capital gains into account on investments and depending on anticipated capital gain it might be worth using your surplus to invest in stocks rather than pay off your non-deductible home loan if the market has just fallen 50% and it has turned up and just broken through the 100 day SMA.

It may even be worth borrowing more against any “surplus” equity you have in your home to make such an investment, even though you are not paying down non-deductible debt as fast as you could.

But to keep it simple for now, first pay off all non-deductible debt, starting with your credit card, then personal loans, then home loans, and when you only have your home loan left, use an offset account so your savings are all offsetting your home loan until you need them to pay bills.

If you need to borrow using a personal loan eg for a car, make sure that your lender will allow you to pay it off faster without any additional costs. This may mean that you need to ensure that the loan is a floating rate loan. This way you can take a longer loan period to give yourself a margin of safety, but pay it off fast.

The golden rules are:

Credit Cards
No credit card debt
a) never spend on a credit card anything you can't pay off in the interest free period
b) never take a cash advance from a credit card,
c) in fact run your with a small credit balance

Debt and Investing
Pay off all non-deductible debt first

Sunday, June 6, 2010

When do I buy back in?

At the moment I am only about 30% invested in the stock market.

The question that is exercising my mind is "how will I know when to buy back in?

I am looking at using a cross of the 30 day Simple Moving Average (SMA) by the 10 day SMA from below (subject to the price being higher than the cross). The market has recently fallen up to 14% and is currently still down 10%. Unless we have a dramatic fall on Monday in response to the 3.4% fall on Wall Street S&P500 last Friday, the cross could happen this coming week.

There are risks to this approach. The risk is that the signals reverse several times without the market moving much between the crosses. That is called being whipsawn. It can cause losses and each transaction also has costs. The market is described as "trending sideways""or "in transition".

However, you need something to help you judge when to buy back in, or increase your weighting of stocks. Some would say the 200 SMA is more reliable, but you have much bigger losses in a major downturn or lost opportunities in a major upturn using such a long average.

So why would I use the 10 and 30 cross? Because it can be quite a profitable indicator. (If the market was down 25% I would likely use a much longer SMA than 30, maybe 100 - I feel that the deeper the fall, the longer the SMA for a buy signal should be to avoid whipsawing, but I have no backtesting to support this feel):

It gave a 10% rise from October 2001 to February 2002 with no whipsaws, and a 17% rise from March 2003 to March 2004 with 5 whipsaws. Using a 50 day SMA instead of a 30 day SMA would have given a 16% rise with no whipsaws and would have been a better choice on this example as the rise was gradual with 5 pullbacks. A sudden rise with no pullbacks would have been well suited to a shorter SMA like 30 Trading Days.

The chart above also shows how you can get whipsawn as the market goes through a 20% decline. If you used a 120 SMA instead of 30 you would have been whipsawn once on the way down and not at all on the way up. you would have been down 3% before your first sell signal, have lost 2% in the whipsaw and then picked up 14% for a net 9% gain compared to a zero gain over the same period if you had just continued to hold your stocks all through the period.

Here is a chart with two significant rises where there was no whipsawing using the 10 and 30 SMA cross. Note that we are down a similar amount now as was the case from both of the bottoms shown in this chart.

But what of the risks of multiple whipsaws with losses and transaction costs? Right click and open the next chart in a new window.

From Jan 91 to July 92 you would have had 7 roundtrip transactions for a total market movement of only +22%. a number of the round trips would have been loss making, reducing the 22% gain to one where on a net basis you captured only between 1/2 and 3/4 of the 22%. A 200 day SMA instead of a 30 would have given less whip sawing, but a higher first buy price, so there may not have been much benefit in using a longer SMA.

So not buying would have led to missing a profit of between 10 and 15 % in 18 months compared to being whipsawn by the 10 and 30 sma while a perfect buy at the bottom would have given 22% return - but how would you pcik the absolute bottom?

No one rings a bell at the top or bottom of the market! You have to have some basis on which to buy and sell, or adjust your portfolio weightings.

Choose the lengths of the SMA's you will use based on your own costs of transaction, loss aversion, ability to replenish funds and consider other factors as well, including fundamentals.

Before embarking on any strategy involving moving averages you should have a look at some recent work by Doug Short::



Thursday, June 3, 2010

Currency and Diversification Impacts on Investment Returns to Australian Investors

I have used the MSCI Barra performance indices (http://www.mscibarra.com/products/indices/international_equity_indices/gimi/stdindex/performance.html) for some of this article as it allows comparisons between performance measured in EUR, USD and local currency. Some charts are from the free version of Incredible Charts (http://incrediblecharts.com).

The Australian Market in AUD and USD

We know what happened with the Australian All Ordinaries from 2007 to 1 June 2010.

At the bottom of the Australian Stock Market in March 2009 the MSCI Barra index was off 53% in AUD terms from 30 October 2007.

In USD terms it was off about 77%!

The recovery in the MSCI Barra index for Australia from the 9 March 2009 bottom to 12 April 2010 was 58%!

In USD terms it was up 132%

These differences are because the AUD/USD Exchange rate was also changing over the same period. Chart courtesy of Incredible Charts free charting software.

So now we can look at the Australian Stock Market in each of AUD and USD using MSCI Barra.

The numbers above illustrate the difference that movements in the currency can have on investment returns.

Currency and Switching Asset Classes

I am now going to use the perfect example to make a point, but nobody could possibly have achieved the result so don’t think that the actual return is even remotely possible. (I will ignore dividends and interest – at 4% pa they have little effect over the time period we are considering and partially offset one another, even after tax and compounding effect.)

An Australian investor who switched from the All Ords to USD cash deposit on 30 October and then switched back to the All Ords on 9 March 2009 and then switched back to USD cash on 14 April would have :

At end October 2007 for AUD100 he would have got USD 93
At 9 March 2009 for USD93 he would have got AUD 1.56 for each USD or AUD145
As at April 14 2010 that AUD145 in the Australian Stock market since 9 March 2009 would be worth AUD229
On 14 April that AUD 229 would buy USD212 at 0.93
Today the USD212 is worth AUD256

An investor with AUD 100 in the All Ords on 30 October 2007 who has just held his investment now has AUD65

The perfect switching strategy to USD cash and back twice would give you 3.9 times as much AUD now as a mere buy and hold strategy! (But remember I said this was totally theoretical and unachievable in practice.)

There could have been additional profit if our hypothetical switching investor had moved to US 10 year bonds instead of cash. As the interest rates on US 10 year Treasury notes went lower during 2008/09 (see chart of $TNX below from StockCharts.com) the price of 10 year bonds bought in October 2007 would have increased. As rates increased in 2009/10 the price would have fallen back but as rates are still lower the price would still be higher than October 2007.

Of course it works the other way too. A US investor who held his Australian All Ords at US93 (AUD100 equivalent) on 30 October 2007, sold at the bottom on 9 March 2009 and took his funds back into USD and switched to cash would have only USD21 (AUD23 ) on 14 April 2009, compared to the Australian investor who did nothing with AUD65 – about 3 times as much as the US investor.

So the point is, if the AUD is has had large price increases compared to most currencies, maybe switching, or increasing your exposure, to those other currencies for part of your investment might make sense (and vice versa).

Similarly, if the stock market (or any other asset class) has grown very quickly for a long time, switching to, or increasing your exposure to, non-correlated assets that are at lower prices might save a significant fall in investment value if the one which has risen starts to fall.

Diversification to Non-Correlated Assets

Now imagine if our Australian Investor had 50% in USD cash and 50% in AUD shares.

At the peak he had AUD50 in shares and AUD50 (USD46.5) in cash. At the bottom of the AUD market he would have AUD23 in AUD Shares and AUD72.54 in USD Cash of USD46.5. His AUD100 is down to only AUD95.5 instead of being down to AUD47 as it would be in shares. The diversification into non-correlated asset classes has dramatically reduced the unrealised loss as at 9 March 2010.

At 14 April the position is AUD 32.5 in Shares and the USD46.5 is worth AUD50 again (by absolute coincidence of the exchange rates at 1 AUD = 0.93USD on both 30 October 2007 and 14 April 2010). Total value AUD 82.5. On this occasion the diversified investor is in front of the AUD shares only investor, but the generally expected result is that the diversified investor will have sacrificed some earnings but will have reduced volatility as shown above by the much lower fall in value of investment.


This is not a suggestion to trade, but is an introduction to three concepts:
1. Foreign currency exposure can be a good thing.
2. Considering rebalancing strategic asset allocation from time to time might be worthwhile. (called Active or Tactical Asset Allocation – these terms mean different things to different people. I am talking about 4 times a year style approach, not necessarily exactly quarterly, maybe at times of crisis in some country or region, or after a fall in stock markets in a region of more than say, 8%.)
3. Having a portfolio of non correlated assets (like USD bonds and AUD stocks) can reduce the volatility in the value of your investment and help you sleep nights.

Next Post

My next post will be on portfolio construction, risk aversion, volatility and diversification.

Saturday, May 29, 2010

Into and out of Australian Bear Markets since 1984

Using data from Yahoo Finance I have constructed a series of charts which show the lead into the various bear markets in the Australian All Ordinaries and the recovery .

I have also constructed an average of the 5 major bear markets prior to the 2007 bear. This average has then been incorporated in each chart in an arbitrary manner to most closely, in my view, approximate the relevant bear market. The timing of the bottoms has been aligned, but not the actual lowest points. There is also a small amount of vertical compression or expansion in most charts. A green linear trend line for the average recovery is also shown.

This approach makes it easy to see an estimate of the dramatic out or underperformance during different periods. For example, look at the dramatic peaking of the market in 1987 compared to the general trend of the average market leading into a peak and trough.
All charts have the peak before the trough scaled to 1 (100%) so the amount of fall to the bottom can be read from the scale.

Please be aware that in some instances the end of the recovery in one chart may overlap with the period before the trough on another chart eg 1991 trough overlaps on 1992 chart and vice versa.

Click the chart images for a larger image. (Use right click > open in new tab.)


Dramatic bull rally to peak was clearly unsustainable.


The second trough is 1992.


First trough is 1991. 1992 trough is at centre. Note excessively fast recovery to new highs was not sustainable.


Very closely approximates the Average peak, trough and recovery.


The start of the unsustainable rally towards the 2007 peak can be seen towards the end of the recovery from the 2003 trough.


The scale of the fall from 2007 to 2009 makes it very arbitrary as to where the Average recovery is shown. I have chosen to align to the recovery side of the chart. I have also added the graph of the recovery from 1991, also adjusted to align to the recovery side of the chart. Last date is 1 June 2010, day 312, and the correction at the bottom was minus 14.9%. There has been a small rebound since to but is now only minus 11.85%.. The fall may well resume as most countries have broken below their 200 day simple moving average which in some markets is about 65% reliable as an indicator of a major change in trend. This possibility is supported by such fundamentals as:
* a possible second wave of real estate defaults in the US,
* the EUR crisis of sovereign debt owed by the PIIGS (Portugal, Ireland, Italy, Spain)
* the austerity being imposed on those countries
* the continuing possibility that default and withdrawal from the Euro by those countries will be more politically acceptable to voters
* the apparent end of a possible bubble and general slowing of the economy in China, a prime buyer of Australian resource exports.

If the 1992 trough is considered as a "double dip" of the 1991 trough, it started from the peak reached on 22 May 1992, day 341 of the 1991 recovery. In today's timing terms the equivalent high would be in about 6 weeks from now. As can be seen from the graphs, the recoveries vary widely in amount and duration so this is not a forecast.

See the recent post comparing recoveries for more information on the corrections that have occurred during the recovery phase.

Hat tip to Doug Short for his more sophisticated series of charts showing Dow falls and recoveries:

Thursday, May 27, 2010

Comparison of Australian Stockmarket Recoveries since 1984

Yahoo has Stockmarket data for the Australian All Ordinaries since 1984. I have used that data to compare stock market recoveries from market bottoms since the deep, short, dramatic crash of 1987.


On fundamentals Australia did not have a housing collapse or oversupply, had no or a very short shallow recession, has little in the way of unprovisioned bank credit losses and has relatively small unemployment, largely due to stimulus which flowed to the firms and workers in the construction industry. There is high private debt to GDP, but extremely low Government debt to GDP. The deficit is moderate compared to developed other countries. Australia issues its own currency. Some say Australia still has a housing bubble. In 2009 Australia had one of the best performing stock markets in the world in both USD and EUR terms.

Where we are - 310 of 350 days

First 350 days of Australian All Ordinaries Recoveries
- Click for large image

The current (bright blue) recovery was much faster for 160 days but is now back to average (bright orange) values. Only the recovery from 2003 was higher after 310 days, so this recovery is still ahead of 4 out of 5 other recoveries.

Where we are going - looking to 1200 days

Australian All Ordinaries Recoveries - First 1200 Days - Click for large image.

The Average recovery falls away from +38% at day 310 and does not recover to current levels of +40%) until about day 450. The Average recovery does not break up from +40% until about day 560.

The Average balances the 1987 recovery which fell back to only +4.6% at day 800 (the 1991 low) against the 2003 and 1991 recoveries which each reached +94% at day 780.
Other than 2003, all recoveries shown went to a significantly lower point by between day 350 and day 460.

In addition to the 1987 recovery major bottom at day 800 (1991 low) (described above):
* 1987 fell from +44% at day 186 to +24% at day 356 (14% fall) 1989 low)

* 1991 fell from +40% at day 210 to only +13% at day 468
(19.5% fall) (1992 low)
* 1992 fell from +71% at day 310 (same as where we are now) to +35% at day 529 ( 21% fall) (1995 low)

* 1995 had a correction from +26% at day 273 to +15% at day 364 (8.7% fall) (1996 low)
* 2003 eventually had a small correction from +58 at day 515 to plus +47 at day 554 (7% fall).

The outlook for the period out another 200 days to day 510 is for a real risk of a major (new or continuing) correction in the Australian broad indices.

The current downturn has been very sharp compared to other major downturns.

Short Term Action

I am, after considering all of the above, watching the 10 and 15 day simple moving averages for a buy signal as There may well be medium term (within the context of 2 to 6 year cycles) rallies before any new, if any, low is reached.

Other Major Markets

Most other major stock markets are below their 200 day simple moving averages. This is generally regarded as an indicator that a major downtrend has commenced, more so if it is on a month end or if it is held for say 5 to 10 trading days. However in a volatile mainly cross trending market it is unreliable, leading to expensive whipsawing as in the Australian All Ordinaries from 1998 to 2003.


* Doug Short for his similar charts on the US market
* John Hussman for his current newsletter about Aunt Minnie and the risks to the market in the near to medium term. http://www.hussmanfunds.com/wmc/wmc100524.htm

Multi national bond fund about 80%, mix of share funds about 20%; real estate
Currency exposure (not including real estate): 80% AUD, 20% other currency denominated.

Themes for seeking Alpha: Australia, Global markets Stocks: EWA, KROO

This article also published in part on Seeking Alpha:

Seeking Alpha articles on Australia:

Friday, April 16, 2010

The Rules

A set of rules posted by David Merkel CFA on his Aleph blog are worth reading:

The Aleph Blog » The Rules, Part I

The Aleph Blog » The Rules, Part II

The Aleph Blog » The Rules, Part III

The Aleph Blog » The Rules, Part IV

The Aleph Blog » The Rules, Part V

The Aleph Blog » The Rules, Part VI

The Aleph Blog » The Rules, Part VII

The Aleph Blog » The Rules, Part VIII

The Aleph Blog » The Rules, Part IX

The Aleph Blog » The Rules, Part X

The Aleph Blog » The Rules, Part XI

The Aleph Blog » The Rules, Part XII

Thursday, April 15, 2010


Welcome to Thorts on Investing.

Thorts will start at the macro level and look at market based strategies for an Australian investor.

The focus will be on easily accessed historical benchmarks for superannuation investment for a loss adverse investor with an eye to introducing a currency overlay.

The inspiration was finding out that I am more risk averse than I thought and that I would sooner not make a dollar than lose a dollar.

I use the free version of Incredible Charts, Yahoo Finance and Excel.

My favourite blogs include Doug Short, Seeking Alpha, Investment Postcards from CapeTown, Bespoke Investment Group, Billy Blog and Debt Deflation.

I will add other sources as the blog develops.