What is a realistic return on value investing?

[d.o.g.]

I am not a fund manager but managing my own money after I sold business. And I need to know how I fare vs a private bank discretionary balanced portfolio so that I can decide whether to DIY or outsource to them. While I enjoy some parts of portfolio mgmt I should outsource if I cannot beat them. Of course there is also the option of just copying their portfolio allocation and doing etfs. All this is further complicated since my allocation is not perfectly like theirs. As
shared, mine is heavier on bonds, less equity, hedge funds and i use leverage to make up the lower equity allocation.

The NAV method is the most suitable method for comparing rates of return since it accounts for capital inflows/outflows. It does take a bit more work but the result allows for easy comparability. Remember to include the cash component of the portfolio as well.

If you trade frequently it may be easier to compute NAV monthly, in which case you would account for injected cash as a liability at month-end (since the units have not been allocated yet) and cash withdrawals would count as an asset (as the units have not been debited yet).

I run a hedge fund and the NAV is computed monthly, with cash addition/withdrawal accrued accordingly.

Even after you can compute NAV easily, remember that how returns are derived also matter. A strategy that depends on high levels of cheap debt may not work as well (or at all) if cheap debt is no longer available.

Also, the volatility of the returns may or may not matter to you. Many people are willing to trade off maximum returns for lower volatility even if they ultimately end up with less net worth, in order to sleep better at night. Others are willing to endure high volatility (including severe mark-to-market losses) for the hope of maximum wealth at the end. Volatility may not matter if you have other sources of cash flow. But if you need to slowly liquidate the portfolio to meet expenses, volatility may matter a great deal.

[corydorus]

I guess the term "XIRR" frighten off people. Is performance return annualized.

If you do 100k investment, and end with 150K in a period of 1 year, we know absolute and performance gain is 50%.
That's what exactly XIRR tells you as well, 50%.

If you do 100k investment, and end with 150K in a period of 6 months, we know absolute gain is 50%. But performance wise ?

Some people will says is 50%
Some people will says since takes half the time is 100%
XIRR is smart enough to give you 127% ! This is not only accurate but cover the blindsided of most people in math. But you are not far off to say is 100%.

[greypiggi]

Dog, totally agree. Looks like nav is the way that resonates best with me. Your point on volatility is super impt. I am trying to have lower vols and decent beat benchmark returns. Looks like I need to compare vols too and calculate my own port vols to make sure I am achieving that. Right now I am just assuming with more bonds, using funds vs direct stocks and now with hedge funds it is less volatile. Should get proof!

Also on cheap debt. This I am super am aware too. I leverage 35% total asset or about 54% net asset. Feels about right and significant enough to juice up returns on bonds. Interest rate is cheap at 0.8+. But I know next year 2h will rise. The question is how much? My low duration maturing 2014/15 bonds and cash will allow me to reduce leverage down to about 20% if needed. What do u think?

what hedge fund do you run?

[d.o.g.]

Dog, totally agree. Looks like nav is the way that resonates best with me. Your point on volatility is super impt. I am trying to have lower vols and decent beat benchmark returns. Looks like I need to compare vols too and calculate my own port vols to make sure I am achieving that. Right now I am just assuming with more bonds, using funds vs direct stocks and now with hedge funds it is less volatile. Should get proof!

Also on cheap debt. This I am super am aware too. I leverage 35% total asset or about 54% net asset. Feels about right and significant enough to juice up returns on bonds. Interest rate is cheap at 0.8+. But I know next year 2h will rise. The question is how much? My low duration maturing 2014/15 bonds and cash will allow me to reduce leverage down to about 20% if needed. What do u think?

what hedge fund do you run?

Cheap debt can be addictive. But having debt forcibly shortens your investment horizon, because now you are beholden to the absolute price of the security instead of the price relative to underlying value. Debt also amplifies volatility in both directions.

Additionally, always remember that the bank has a "nuclear option" if it wants its money back: it can declare your collateral non-marginable i.e. now you have to either do a forced sale to repay the debt, or stump up the extra cash. It's not always your fault - if the bank management has a change of mind, no matter how much your RM loves you, he has to abide by the rules. A similar problem might be a cutting of the credit line - your collateral may still be good, but the total loan amount gets reduced anyway so you need to sell or pay up. If you read the terms and conditions the bank generally has the absolute right to modify the terms as it sees fit, including demanding immediate repayment.

It is not just the US tapering that will eventually cause interest rates to go up. The Basel III rules for banks require them to book a capital charge for loans, not just their cash cost of funds. All the banks expect their costs to go up and their rates of return to come down. At least some of the costs will be passed on to customers. So expect to get less financing in future, and at a higher cost. I have contacts working in major banks and they are not optimistic about future rates of return - or their own compensation.

As for my fund, send me a private message.

[tanjm]

Additionally, always remember that the bank has a "nuclear option" if it wants its money back: it can declare your collateral non-marginable i.e. now you have to either do a forced sale to repay the debt, or stump up the extra cash. It's not always your fault - if the bank management has a change of mind, no matter how much your RM loves you, he has to abide by the rules. A similar problem might be a cutting of the credit line - your collateral may still be good, but the total loan amount gets reduced anyway so you need to sell or pay up. If you read the terms and conditions the bank generally has the absolute right to modify the terms as it sees fit, including demanding immediate repayment.

I agree. I have an acquaintance who had millions in bonds with leverage. At around the GFC, the bank force sold his holdings, leaving him with a loss. I don't think his case was uncommon.

If you buy on margin, ultimately while the beneficial owner is yourself, the nominal owner is the bank, who can just force things on you.

If the intention is to gain higher returns through higher risk, it would be better to do it by other ways (such as increasing exposure to riskier assets).

[Temperament]

Additionally, always remember that the bank has a "nuclear option" if it wants its money back: it can declare your collateral non-marginable i.e. now you have to either do a forced sale to repay the debt, or stump up the extra cash. It's not always your fault - if the bank management has a change of mind, no matter how much your RM loves you, he has to abide by the rules. A similar problem might be a cutting of the credit line - your collateral may still be good, but the total loan amount gets reduced anyway so you need to sell or pay up. If you read the terms and conditions the bank generally has the absolute right to modify the terms as it sees fit, including demanding immediate repayment.

I agree. I have an acquaintance who had millions in bonds with leverage. At around the GFC, the bank force sold his holdings, leaving him with a loss. I don't think his case was uncommon.

If you buy on margin, ultimately while the beneficial owner is yourself, the nominal owner is the bank, who can just force things on you.

If the intention is to gain higher returns through higher risk, it would be better to do it by other ways (such as increasing exposure to riskier assets).

what is the moral of the story?

[greypiggi]

Dog, tanjm, advice and sharing appreciated. Tanjm, how leveraged was your friend for banks to forcesell? Would be good to know in what cases they force sell.

My leverage of 35% on total assets includes all property too. I would have thought this is very safe already...

If I do totally no leverage, then I need to make even better returns. I was thinking of reducing leverage only when interest rates are high. Meaning I will make back the income via higher bond yields at that time when I buy. And equities should be doing well too.

[tanjm]

Dog, tanjm, advice and sharing appreciated. Tanjm, how leveraged was your friend for banks to forcesell? Would be good to know in what cases they force sell.

My leverage of 35% on total assets includes all property too. I would have thought this is very safe already...

If I do totally no leverage, then I need to make even better returns. I was thinking of reducing leverage only when interest rates are high. Meaning I will make back the income via higher bond yields at that time when I buy. And equities should be doing well too.

Well, I did say he was an acquaintance only, and I think it would have been rude for me to dig. I only know about it because he complained to me in a casual setting and I saw in the news he was trying to sue the bank.

Not that I'm an expert in this but I suggest you review your agreement with your bank. You may find terms like "in the case of market disruption" where the bank is essentially free to value your portfolio in a way most conservative for itself. This will be especially true of bonds, property and other potentially illiquid instruments.

Of course the GFC might have been a one off, but you never know.

[csl123]

Dog, tanjm, advice and sharing appreciated. Tanjm, how leveraged was your friend for banks to forcesell? Would be good to know in what cases they force sell.

My leverage of 35% on total assets includes all property too. I would have thought this is very safe already...

If I do totally no leverage, then I need to make even better returns. I was thinking of reducing leverage only when interest rates are high. Meaning I will make back the income via higher bond yields at that time when I buy. And equities should be doing well too.

When the interest rates are high, most equities generally will not be performing well.

[csl123]

I am not a fund manager but managing my own money after I sold business. And I need to know how I fare vs a private bank discretionary balanced portfolio so that I can decide whether to DIY or outsource to them. While I enjoy some parts of portfolio mgmt I should outsource if I cannot beat them. Of course there is also the option of just copying their portfolio allocation and doing etfs. All this is further complicated since my allocation is not perfectly like theirs. As
shared, mine is heavier on bonds, less equity, hedge funds and i use leverage to make up the lower equity allocation.

I think what is more important is to set an investment goal and structure your strategy around it. If your goal requires you to make a 5% long term return over 30 yrs, your intended allocation might look very different from your current allocation. The intention of the allocation is to make the required return with the least amt of risk or volatility.

Separately, what is the target return of the discretionary portfolio you are referring to?