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Tea with EY: Is our CPF LIFE payout going to be sufficient?

Saturday, May 30, 2015

It has been a while but here is another wonderfully crafted guest blog by EY as she asks some questions which we might be afraid to ask ourselves:


Is having a CPF LIFE payout of $2500/month sufficient?

Which do you prefer?

Let your desired quality of life determine your retirement sum?

or

Let your retirement sum determine the quality of your life?

In Singapore, quality of life does not come cheap. More so if we are projecting decades into the future.

Based on 3% annual inflation rate, what we can buy with $2500 today will cost us $5234 in 25 years’ time, $6068 in 30 years’ time, and $8155 in 40 years’ time.

Those of us intending to depend solely on CPF LIFE payout for retirement should do a reality check. Even in the case where we could set aside the Enhanced Retirement Sum (ERS) which is 3 times the Basic Retirement Sum (BRS) and 1.5 times the Full Retirement Sum (FRS).

I have produced a reference table detailing the CPF LIFE payout using the CPF LIFE Payout Estimator based on the FRS and ERS that are adjusted for 3% inflation each year. To derive a more conservative payout projection, I have chosen the uppermost range for ‘Annual Value of Property’ and ‘Annual Assessable Income’.

CPF LIFE Payout

(https://www.cpf.gov.sg/cpf_trans/ssl/financial_model/lifecal/Life_Estimator.asp)

Annual Value of Property (AV): More than $30,000     Annual Assessable Income (AI): More than $60,000         Gender: F





From the table, the FRS will likely be around $236,000 and ERS around $354,000 in Year 2029 when I turn 55 years old. Considering that my current SA balance is >$170,000, and if I continue to be economically active for at least another 5 years, I should have no problem achieving the ERS. This would translate to a CPF LIFE payout of approximately $2300 - $2600 per month at my drawdown age of 65. (NB: The CPF LIFE payout of $2300 - $2600 is extrapolated from the Year 2028 ERS payout as the CPF LIFE estimator caps input for calculation at $350,000)

At 65, what I receive from the CPF LIFE Payout is likely worth only $1131 - $1279 in today’s dollars.

Fast forward to 80 years old in Year 2054, my CPF LIFE Payout is probably worth only $726 - $821 in today’s dollars.

So, if I wish to maintain a quality of life equivalent to $2500 in today’s dollars, I would need an increasing income stream to make up for the loss of value due to inflation. The table below outlines the additional income I need at the various age to combat the 3% inflation that is chipping away the value of my money.



Looks like the comfortable retirement that I desire will have to be fuelled by a lot more hard work now and in the next 10 or even 20 years!

Related posts:
1. Changes to the CPF system. BRS, FRS and ERS.
2. Achieving Level 1 financial security.
3. Upsize $100K to $225K in 25 years.

How much should we have in our emergency fund?

Friday, May 29, 2015

Having an emergency fund is important. 

No rational person would ever say an emergency fund is unimportant. 

Rationally, we know that bad things happen sometimes and we might need to have more liquidity at hand for such situations.

Whatever our persuasion might be in our journey as an investor, we cannot deny that cashflow is important. 


There could be times when cashflow is negatively affected and slows to a trickle or it could even dry up. 

That is when an emergency fund is drawn upon.




If our cashflow is a like a stream of water, an emergency fund is like a water tank that will dispense life giving water in the event of a drought.


The question of how big an emergency fund is enough is more difficult to answer because there isn't any one size fits all amount, obviously. 


Then, is there any guideline which AK could offer? 

Well, I could talk to myself, I suppose. 

Remember, however, AK is just sharing what he has done in his life. 

He is not a trained financial adviser.

Whether an individual's emergency fund is sufficient depends very much on his lifestyle, the number of dependents he has and how old he is.








Lifestyle

We could have a simple lifestyle or a lavish lifestyle or somewhere in between. 


Of course, what is considered simple or lavish would differ from person to person. 

No matter what our definition, we will have certain expenses which are fixed or routine and some which are discretionary.




Fixed expenses are mortgages, Telco bills, loan repayments, insurance premiums etc.


Discretionary expenses are holidays, birthday parties, visits to restaurants etc.



Of course, there is some room for debate as to what is fixed and what is discretionary. 


However, I will say that fixed or routine expenses are those that cannot be eliminated as easily as discretionary expenses.




Number of dependents


For those of us who are still single, some of us might have to take care of elderly parents or young siblings. 


For those of us who are married, some might have children who still need to be cared for. 

Our dependents will have routine expenses (and discretionary expenses) too.




Age


As we grow older, it is harder to find employment if we should be retrenched. 


If we manage to find re-employment, we might have to take a pay cut. 

Well, I am just taking my own advice to be pragmatic and not be overly optimistic or pessimistic. 

So, I think a bigger emergency fund as we grow older, all else remaining equal, is sensible.








So, bearing the above points in mind, is there a formula we can use to arrive at an amount that we should have in our emergency fund? 


Forgive me that I do not know how to express this in a neat equation. 

I offer you neat paragraphs:

If we take all our monthly routine expenses (our own + our dependents') into account, we will know what is the minimum amount of money we must have each month in order to maintain our current lifestyle. 


If we are in our 20s, multiply this amount by 6 to determine the size of the emergency fund required. 

If we are in our 30s, multiply by 12x. 

If we are in our 40s or older, multiply by 24x.




Someone once denounced me for being fake when I said I maintained an emergency fund enough to cover 24 months' of routine expenses. 


He didn't believe that I still needed an emergency fund because my passive income stream was strong enough to replace my earned income. 

Do you feel the same way?




If we remember my earlier analogy that our cashflow is like a stream and that our emergency fund is like a water tank, we will understand why I think an emergency fund is a must even if we should have a passive income stream.


So, how much should you have in your emergency fund? 


I hope this blog post has given you an idea.




Related posts:

1. Why a meaningful emergency fund is important?
2. Emergency fund: How much is enough?

What are some questions to ask when tempted by a 12% yield?

Wednesday, May 27, 2015

A conversation with a reader on a type of investment that I am usually wary about:

Hi AK,

I am looking for financial freedom but having little investing knowledge. I have a little situation...

About few months ago, I chance upon a company call XXX that was into Aquaculture business in a investing seminar. I was hooked by their business model in the way the speaker was presented as it was easy and simple to understand. They farm mud crabs and fishes and sell to local market.
Investors that throws in the money get back their profits, very simple.

 They offered me 8% of guaranteed returns on the every 8th month if I were to invest SGD $2500 with them. The investment will end on 24th month. Having no basic knowledge of investing, I agreed and invested my money with them.

8 months has past, I received a call from the company and the portfolio manager invited me to his office to collect the returns generated from the business in a form of cheque and to meet me to talk about  further expansion of their business.

I went over to meet the portfolio manager in their office, he pass me my cheque. This time he explained that their company wanted to raise capital for expansion on a greater aquaculture sector and further explain that it is a stand-alone bond. This time the minimum sum of amount to invest is SGD $25,000 in the bond with a fixed return of 12% that will be given per annum that will stretch out to 5 years. There is a early exit in the 2nd year, however if I placed my money til the 5 year I will have my ROI and a maturity bonus. Total ROI that I will be receiving will be $16,875 if i keep til the 5 year.

 He showed me that they have a strong team of Aquaculture Researchers and specialists in his power point slides and pictures of them.

I'm very uncertain about placing $25,000 to Aquaculture investment as it is a very risky investment.

I would like to know that do you think of this type of investment?





My reply:

Hi,

1. Why is the business not able to get a bank loan?
 

2. Why is the business not able to get the backing of bigger investors?
 

3. Surely, it is a lot more work and costlier to seek out many small investors.

I did some research into the company. They claim to be a global company and the only reason I can think of for doing what they do to raise funds for this business is because it is a high risk business. I wonder if they have a credit rating?

A coupon of 12% per annum might seem very attractive for a bond but this is what is offered by junk bonds issued by companies which fail to secure a strong credit rating.

In fact, many junk bonds offer much higher yields now. 12% could be insufficient to compensate lenders for the risks they are asked to undertake. Have they listed the risks associated with the business? What are the things that could go wrong?

Do insiders have a big personal stake in the business? Or is the business being run solely on borrowed funds? How are they able to guarantee the safety of your capital invested if the business should fail?

I don't know enough to invest in something like this with confidence. So, I would rather avoid.

Best wishes,
AK


I know I have asked many questions in my reply to the reader but that is really the first thing we have to do as investors: Ask questions which matter.

It is not just how much money could we make but also what are the chances of us losing money and how much could the losses be?

Related post:
Nobody cares about our money more than we do.

What is your 12 months market forecast? (UPDATED)

A conversation with a reader:

Reader says...


wish to seek your opinion.

well, currently i have some holding. about 370k and with paper loss 12k
:(

but i have generate 8k dividend + capital gain.






wonder how is your view on coming 12 month on share market.

then i would like to make it as reference to decide sell or hold my position.
















AK says...

You would know that there are some questions I won't give a direct answer to. 


In many instances, it is because I don't know the answer. ;p

(This is one of those instances.)

In reply to your email, I would say that I am "Eating Bread With Ink Slowly". 


If you don't know what I am talking about, (read related post #1 below).








No one knows for sure what will happen in the future.

I would be very wary of anyone who says he knows for sure what is going to happen and claims that he has perfect foresight.

What about AK?

I always tell people that I believe I have mostly been rather lucky.







So, although a good teacher of mine always said that results are due to

七分努力三分运气.

(70% work and 30% luck.)

AK always says his results are due to

三分努力七分运气.
(30% work and 70% luck.)


Bad AK! Bad AK!







No one has perfect foresight.

Although we don't know for sure what will happen in the future, we can all prepare for what might happen in the future. 


Remember, we cannot predict but we can certainly prepare.






Related posts:
1. Have peace of mind as an investor?
(Eat Bread With Ink Slowly!)

2. Ready to come out on top?

Tea with Matthew Seah: Exchange Traded Funds (ETFs).

Tuesday, May 26, 2015

ASSI's most prolific guest blogger, Matthew Seah, readily agreed to contribute this guest blog when I asked him if he could do it. Such an obliging and intelligent fellow.


During the 4th “Evening with AK and friends” session, a young man mentioned cash-based and synthetic ETFs. After some discussion, AK shot an arrow for me to do a guest blog on ETFs, so here it is.

Firstly, exchange traded funds (ETF) are investment funds that can be traded on the stock exchange, hence the term ‘exchange traded’.

The main objective of an ETF is to replicate the performance of a basket of stocks of an underlying benchmark. An ETF is a passively managed fund and generally charge lower fees compared to actively managed funds. Hence the kind of returns you can expect from investing in an ETF is equal to the performance of the underlying benchmark minus management fees.


Alright! Now ETFs can be categorised into 2 broad types: cash-based or synthetic.
Synthetic ETF
Synthetic ETFs are more complex than cash-based ETFs. Synthetic ETFs creates a similar benchmark with the use of derivatives such as options, forwards, swaps and participatory notes. Like with all derivatives, synthetic ETFs are all Specified Investment Products (SIPs) on SGX.

As the use of derivatives are complex and often non-transparent in nature, MAS has kindly restricted trading of synthetic ETFs by requiring investors to go through customer knowledge assessment before they can trade synthetic ETFs.

Cash-based ETF
Cash-based ETFs are simple funds that allocate whatever capital pooled into the fund into a similar portfolio as the underlying benchmark. For example, the capital in Nikko AM STI ETF is used to invest in the 30 STI components stocks according to the weightage of each stock in the STI.

This is a preferred form for the safety seeking investor, as no third party credit risk is involved.



So what are the added risks involved in synthetic ETFs not found in cash-based ETFs?

Synthetic ETFs enter into contracts with third parties, or counterparties, when using derivative products. Hence there is counterparty risk where the counterparty might default on their obligations. Thus, your returns will depend on the ability of the counterparty to honour its commitments to the ETF.

With derivatives, leverage may be used to increase returns. While leverage may generate higher returns, it could also cause the ETF to lose more than the market.

Conflict of interest may occur when the counterparty and the ETF are from the same financial institution.


You can find out more about how ETFs are structured and their risks here.


How do I know if the ETF is synthetic or cash based?





Highlighted red is where you can determine if an ETF is synthetic or not. A ‘X@’ in the SIP column would indicate that the ETF is synthetic.

A ‘@’ indicate that the ETF is an SIP and customer knowledge assessment is required.

An empty box, i.e. ABF SG Bond ETF, indicates that the ETF is a cash-based ETF.

Why do ETFs use derivative products?
  1. Some markets like many emerging markets are inaccessible to the ETF, hence derivative products have to be used in order to gain access to the stocks.
  2. Derivatives when used properly, are hedging tools and can reduce risks and improve portfolio management for the ETF.

Lastly, as a result of doing some search for more information, I have found that the MAS
converted some ETFs, previously classified as SIPs, to excluded investment product (EIPs). The ETFs that were converted to EIPs will be predominantly cash-based and only use derivatives for efficient portfolio management including the hedging of risks.


Therefore, you would expect those with only a ‘@’ to eventually convert into an EIP under the new framework.

Here is the list of ETFs I found online:






"Following strong market feedback that earlier versions of the Specified Investment Products (SIP) regime had been overly broad, the Monetary Authority of Singapore (MAS) has tweaked its rules to exclude simple funds from the often cumbersome safeguards required to invest in more complex products.

"In a bid to encourage investments in exchange traded funds (ETFs), Singapore Exchange (SGX) will also waive ETF clearing fees from June 1 to Dec 31, 2015.

"Under the previous rules, products such as gold exchange traded funds and funds that invested in a particular country were treated the same way as leveraged products or those that tracked synthetic benchmarks. Under the SIP framework, investors who wanted to buy those products had to be assessed by their financial institutions for their ability to understand those products. A lack of competency or experience in understanding those products would require additional safeguards to be put in place before the investment could be allowed.

"But the new rules, which took effect on Wednesday, carved out exemptions from the SIP requirements for funds that trade in gold as well as those that use derivatives only for hedging or efficient portfolio management purposes."

(Source: The Business Times, 30 April 2015.)

Thank you, Matthew!

Related post:
The 4th Evening with AK and friends: A success!

Should I sell my investment to lock in gains? A perspective.

Monday, May 25, 2015

A conversation with a reader:

Reader says...


Thank you for a great post again, this time with the Singapore Savings Bond, you always have a clear way to put it - your opinion vs general and helps people like me to make my own decision. 

I've been your blog reader for few years, and haven't written or comment at your blog for a while. 

I had bought into some Singapore Reits over the years for passive income, and this email I'd like to seek your sharing of experience in "selling" of Reits. 




I have a long term view for Reits, and keep it for income, but this particular one is putting me to a spot now - sell now or hold. First Reit. 

I bought it at around $1 and it has now appreciated to 40% and DPU is consistent for past years, they have further acquisitions and developments in Indonesia in upcoming future.  





But at this stage, at a capital appreciation of more than 40% , I'm considering if I should sell it off because I made this rough computation in my head as: 

with a 8% yearly dividend yield, if I sold off at 40% capital appreciation, it covers the next 5 years of dividend, and if crisis comes within these 5 years, I could then buy it again and accumulate again as passive income (provided all else remains equal that it is still a good company to invest in). 

But then questions put me at a stop - what if price never falls any much lower, how to calculate the $$ value of both options - hold and collect dividend vs sell off and buy back later at x $ price. 




Last week I met a several people at the AGM sharing about such problem or challenge in making decision - how to decide to hold and collect the dividend or take in the capital appreciation and put in the money somewhere else? 

A senior guy for e.g had bought in Ascendas when it was $0.60 and sold off at $1.50 and never imagined it would raise up to over $2 now. so he has no conclusion or idea why and when to hold or sell of a Reit. 

hope to hear more of sharing your experiences of strategies to sell and take in profit, and thank you in advance, for time to read this long post. :) 










AK says... 


Always question our motivations. 

Are we investing or are we trading?




If we are investing for income, if the investment is still doing the job we expect it to do, generating attractive income for us, then, there is really no reason to sell unless we feel that there is another investment out there that can do a better job.

As for wondering if the market will crash in the next 5 years, no one knows for sure. 


That is in the realms of speculation.

In the meantime, income generated from my investments fill my war chest. 





If there should be a meaningful decline in prices, all else remaining equal, I will be able to load up using my war chest.

Of course, for people who mix investing and trading, if a stock is up from $1 to $1.50, for example, they could consider selling two thirds of their investment to recover their capital. 


Their remaining position is free.

Don't mind me. I am just talking to myself.





Now the reader will start talking to herself. It is a contagious disease:





Reader says... 

Thank you AK for the response! 


I can always trust you to put it in clear steps and points. now my brain is able to do some talking to myself, after what you talk to yourself :D 

looking forward to your posts.





Related posts:
1. When to BUY, HOLD or SELL?
2. A simple way to a double digit yielding portfolio.
3. Singapore Savings Bond: Good or not?
4. Do not love unless it is worth the loving.


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