Top 10 ASX ETFs or LICs

See below a chart providing a ranking of the best income-producing ETFs or LICs on the ASX. The chart below updates in real time and estimates future income returns (including franking credits) based on historic returns. Past performance does not guarantee future performance. The chart below is not exhaustive and does not include all ETFs and LICs.

Buy a House vs Invest in ETFs

This is a common dilemma. You are saying up money and want to know if it is better to buy a house and live in it or invest in ETFs and rent (also known as rentvesting).  Personally I would invest in ETFs. The reason why is because the key difference between the two options is you pay far higher taxes when you buy a house.

For example, if you buy a house then you’re need to pay stamp duty. On a $1 million house that is roughly $57k in stamp duty, which will reduce your net worth. Assuming you save up a $200k deposit, then right after you buy your house your net worth will be $143k whereas if you simply keep your money in ETFs you’d still be at 200k.

However, an argument can be made that if you buy a house, because you have borrowed money to buy $1m worth of asset then you have leveraged exposure, which moves you up the risk-reward curve (also known as the efficient frontier). If you save $200k and invest it in ETFs, if there is a 10% increase, you have made $20k. However, if you have purchased a $1m house and it goes up 10% then you have made $200k. However, what is misleading about this comparison is that it compares apples with oranges, that is, it is comparing leveraged real estate vs unleveraged ETFs. To compare apples with apples, you need to compare leveraged real estate vs leveraged ETFs. Leverage does not increase returns without any consequences. Leverage increases risk, which may result in higher returns.

You can move up the risk-reward curve with ETFs simply by reallocating a portion of your ETFs into internally leveraged ETFs e.g. GEAR or GGUS. Another option is to invest in higher risk niche ETFs (e.g. ROBO or TECH) to move up the risk-reward curve. The benefit of buying higher risk ETFs is that there are no mandatory monthly mortgage payments or, if you take out a margin loan, margin calls. The effect of leverage is handled by the fund itself and there is no obligation for you to pay anything.

Gearing into equities is expensive before tax but cheap after tax

Another way to move up the risk-reward curve is to take out a margin loan and buy ETFs with it. The downside to taking out a margin loan is higher interest rate compared to home loans. According to Canstar, the cheapest margin loan rate is 5.20% from Westpac whereas the cheapest home loan it is 3.49% from Reduce Home Loans. However, if you buy a home to live in, the mortgage debt is not tax deductible, but the margin loan debt is tax deductible, i.e. you can negatively gear into ETFs by taking out a margin loan, which effectively lowers your interest rate by your margin tax rate. Assuming you earn between $87k and $180k and face a 37% margin tax rate then rather than pay 5.20% interest rate you are effectively paying 3.27% which is in fact lower than the home loan. If you have chosen to leverage using internally geared ETFs, because the fund manager has high bargaining power, he or she is able to get low interest rates anyway. According to the GEAR and GGUS brochure from Betashares, “the fund uses its capacity as a wholesale investor to borrow at significantly lower interest rates than those available directly to individual investors.”

Another advantage of investing shares or ETFs is that Australian shares often pay dividends with attached franking credits (e.g FDIV pays 100% franked dividends), which lowers you tax burden even further.

Capital gains tax has little impact

Even though living in a home does not make you eligible for negative gearing, you are eligible for capital gains tax exemption. However, capital gains tax is easy to avoid if you buy a hold shares or ETFs. Because capital gains tax is triggered with you sell and because capital gains tax is charged at your marginal tax rate, simply buy and hold and wait until you are retired. When you are retired, you will earn no salary, so your income will drop and your salary will likely face lower income tax, perhaps even being within the tax free threshold. You then sell off shares or ETFs bit by bit when you’re retired, ensuring that you pay little or no CGT.

Low rental yields vs high dividend yields

Now that we have established that ETFs have lower borrwing costs than real estate due to the impact of negative gearing, stamp duty avoidance, and franking credits, a huge argument for investing in ETFs rather than real estate is the huge difference between rental yields and dividend yields. As of right now, a three-bedroom unit in Brunswick East costs $1.3m and has rental yield of 1.42% i.e. around $18.5k in rent per year. However, as of right now, Commonwealth Bank shares are paying gross dividend yield of 8.6%. This means that if you have $1.3m, then rather than buying the Brunswick East unit and living in it, you can simply take out a margin loan, invest $1.3m all in CBA, and then receive $110k in dividend income per year. After income tax and franking credits, this will be around $90k. After paying rent of $18.5k you have roughly $70k per year extra simply by using ETFs.

Not only do you get $70k per year extra thanks to the extreme spread between rental and dividend yields, but the benefits for ETFs are magnified even further because of lower post-tax borrowing costs.

Using one Brunswick East unit vs one high dividend paying stock (CBA) is an extreme example. Not all stocks are the same and not all residential real estate is the same. However, the general trend is indeed that rental yields in Australia are low and dividend yields on Australian stock are high. If you bring up a list of all properties on the BrickX fractional property platform and sort by rental yield, the highest yield property, a one-bedroom unit in Enmore NSW only delivers a rental yield of 2.76% with the average rental yield about 1.5%. However, a broad ASX200 ETF such as STW provides gross dividend yield of 5%.

 

 

 

Betashares Active Australian Hybrids Fund (ASX: HBRD)

I have always been interested in the latest ETFs in Australia. Most people are collectors e.g. they collect stamps, coins, antiques, wine, or wristwatches. I personally like to collect investments. As such I has bought and continue to hold countless investments across many different asset classes. The problem with a passion in e.g. wine or wristwatches is that it may not be profitable (unless the wine or watch is so rare it goes up in value) but an obsession or passion in investments is one you can indulge in without any guilt.

The latest ETF I have researched and purchased is the Betashares Active Australian Hybrids Fund (HBRD). The reason why I have purchased HBRD is because I feel at this stage I have an overweight exposure to stocks, so I want to reduce the risk of my portfolio. However, reducing risk usually involves investing in cash, bonds, or gold. However, these asset classes (with the exception of corporate bonds) pay low passive income thanks to the current low interest rate environment. Investing in HBRD allows me to reduce risk while at the same time getting about 4% or 5% passive income paid monthly.

For a few years now I have been worried about the valuations of stocks and property, but I have been surprised that these assets continue to go up, so the derisking of my portfolio over the last few years has certainly cost me money as I have missed out on large price appreciation. (I also missed out on the cryptocurrency boom as well.) Nevertheless, I have little regrets because I believe in diversification i.e. spreading money across everything. My plan is to gain freedom by slowly building passive income through steady and consistent investment fueled by a minimalist lifestyle. I also believe it is better to be safe than sorry. I’d rather walk steadily towards my goal rather than run there in order to save some time and potentially slip and fall. As they say, everything looks good in hindsight.

What is a hybrid?

All investments have a risk-reward trade-off. The more risk you take, the more potential reward you have. For example, cash or government bonds are safe investments. Government bonds are guaranteed by government. In Australia, cash deposits are mostly government guaranteed as well. However, if you invest in government bonds or cash, you will earn little interest, perhaps 1% or 2% if you’re lucky. Bonds are merely IOUs. If you buy a bond, you are effectively lending money and in return you receive regular interest payments (called a coupon) as well as your money back after a certain period.

In contrast to bonds, stocks are risky investments. Buying stocks allows the stockholder to vote (e.g. for who becomes a director) and allows the stockholder to earn dividends, which are simply payments made by the company to stockholders from profits. Stocks are risker than bonds because bondholders are paid before stockholders. If there is profit made by the company, bondholders are paid first and remaining profit is paid to stockholders. This also applies in the event of bankruptcy. Because stocks are riskier, companies need to pay higher dividends in order to compensate investors for taking on more risk. Dividends from Australian bank stocks such as CBA pay dividends of about 8% currently, but stock prices are volitile and can fluctuate wildly. Although bank stocks pay higher passive income, you are risking capital loss and dividend cuts should the banks become unprofitable.

Hybrids are assets that are a hybrid of bonds and stocks. When you buy a hybrid, you receive regular income as you would a bond. However, under certain circumstances within the hybrid contract, the asset may be converted into equity. All hybrids are different, so it is difficult to generalise. Some hybrids have characteristics that make them more like bonds whereas others have characteristics that make them more like stocks. Regardless, hybrids sit between bonds and stocks on the risk-reward continuum and so can be expected to be less risky than stocks while still paying reasonably high income.

Why buy a hybrid ETF

As explained earlier, every hybrid is different. In order to understand whether a particular hybrid is more bond-like or stock-like, a careful study of the terms and conditions is required. Hybrids are complex investments and as such is suited to active management and oversight by experts, which is what HBRD provides.

Conclusion

Although a good case can be made for active management in hybrids, active management has its issues. You are putting your trust in people, which is generally not a good idea. Nevertheless, I do not intend to put everything into HBRD but will instead spread money across lower risk investments with high passive income. There are another ETF also issued by Betashares that invests in corporate bonds (ASX: CRED). Corporate bonds are higher risk than government bonds thereby allowing higher yields. CRED also pays monthly income, which is very attractive for people who live off passive income (such as myself).

One of the frustrations with hybrids is that there is very little information about it. For example, if you research cryptocurrencies such as bitcoin on the internet, you will find a neverending flood of information, YouTube videos, etc. Bitcoin is a global investment that everyone can access. Hybrids, on the other hand, have few exchanges and are mostly purchased by institutional investors off exchanges. There is little information on the internet about hybrids.

Another consideration is that HBRD purchases hybrids from Australian banks, which are heavily exposed to the Australian housing market. There are currently fears of a slowdown in the property market. Nevertheless, Australian banks do not hold the property itself but rather the mortgages used to buy the property. So long as borrowers keep making their interest payments and paying their fees, revenue should be unharmed. Hybrids are issued all around the world, so the returns on hybrids should correlate with global interest rates. In the recent rising interest rate environment, this should mean higher returns from hybrids but more interest cost for Australian banks as wholesale credit becomes more expensive. Nevertheless, Australian banks do have considerable market power allowing them to respond to rising cost of global wholesale credit by raising interest rates or fees.

 

Betashares Legg Mason Income ETFs (EINC and RINC)

I invested a fair chunk of money into the Betashares Dividend Harvestor Fund (HVST), and while this fund pays great monthly dividends (approx 14% now), its price performance is lacking, as the chart below shows. (Read The Problem with HVST.)

Screenshot 2018-03-12 at 12.26.37 PM

HVST price as of 12 March 2018 – Source: Bloomberg

To address this issue, I have simply opted for a 50% dividend reinvestment plan, which will see half the dividends go back into buying units in the ETF in order to maintain value. Assuming HVST continues to pay 14% yield and that 50% DRP is enough to prevent capital loss, HVST still provides 7% monthly distributions, which in my opinion is fairly good. Generating sufficient monthly distributions is very convenient for those who live off dividends as waiting three months for the next dividend payment can seem like a long wait.

However, Betashares have now introduced two new ETFs on the ASX (EINC and RINC) based on existing managed funds from fund manager Legg Mason. Based on the performance of the equivalent Legg Mason unlisted managed funds, these ETFs are very promising for those who live off passive income. These ETFs have high dividend income (around 6 to 7 percent yield) paid quarterly, and based on past performance at least, there doesn’t seem to be any issue with loss of capital.

RINC (Betashares Legg Mason Martin Currie Real Asset Income ETF) derives its income from companies that own real assets such as real estate, utilities, and infrastructure whereas EINC (Betashares Legg Mason Martin Currie Equity Income ETF) derives its income from broad Australian equities.

The expense ratio of 0.85% is on the high side but not unsual for this type of fund (income focussed and actively managed). Another potential risk to consider is the impact that rising interest rates can have on many of these investments, especially “bond proxies,” into which RINC and EINC seem to invest exclusively.

The Problem with HVST (Betashares Australian Dividend Harvester Fund)

For probably two years now I have been buying up the Betashares Australian Dividend Harvester Fund (HVST), which is a exchange traded managed fund listed on the ASX. The appeal of this fund is that it pays a very high dividend yield (about 10% to 14%) and pays this dividend monthly. The monthly dividend payment normally gets paid into my bank account in the middle of the month, and every payment is roughly the same. Hence HVST makes living off dividends very easy. This is why I have accumulated over $100k worth of HVST.

However, it is becoming increasingly clear that there are many flaws with this fund, the main one being that it has not performed well in the last few year compared to the ASX 200.

HVST vs ASX 200 from 2014 to 2017
HVST has significantly underperformed the ASX 200 over the last few years (chart from CommSec).

That being said, I am not criticizing the fund or Betashares. I was well aware that the dividend harvesting technique employed by the firm would result in less upside when markets were going up. This is a result of the fund manager buying high dividend paying stock just before dividends are paid and then selling the stock after the dividend is paid. As stock prices normally go down after dividend payment (as the company’s value goes down in line with its reduction in cash) then naturally a dividend harvesting technique would result in lower capital gains.

Something else surprising is that during downturns in the ASX 200, HVST also went down considerably as well, which makes me question the firm’s risk management overlay employed. According to the article Managing risk: the toxic combination of market downturns and withdrawals in retirement on the Betashares Blog:

One way to help manage sequencing risk is to apply a dynamic risk exposure strategy, which seeks to reduce downside market risk…. BetaShares combined its expertise with Milliman to launch the BetaShares Australian Dividend Harvester Fund (managed fund) last November. The fund invests in large-cap Australian shares with the objective of delivering franked income that is at least double the yield of the Australian broad sharemarket while reducing volatility and managing downside risk.

Based on this description, I was hoping that the fund’s risk management overlay would reduce downside movements, but the chart of the performance of HVST against XJO shows that when XJO turns downwards, HVST goes down by as much. When XJO goes up, HVST tends not to go up much if at all, which results in HVST falling by about 20% over the last few years while XJO has managed to increase in value by a modest 5% during the same time period.

As I said, this does not mean I will not continue to invest in this fund. The regular and high monthly dividend payments are extremely convenient, and any capital losses made by the fund over time, in my opinion, can be compensated for by investing in ETFs in riskier sectors e.g. investing in tech stocks, emerging market, or small caps or even by investing in internally leveraged ETFs such as GEAR. For example, if you invest half your money in HVST and half in GEAR, you get the convenience of monthly regular dividends from HVST and any capital loss is compensated for with your investment in GEAR which should magnify upside market moves. Note that a limitation of the half HVST and half GEAR strategy is that when the market goes down, GEAR will go down significantly as well. Furthermore, another problem with both GEAR and HVST is that they have management expense ratios that are significantly higher than broad-based index ETFs mostly from Vanguard or iShares. Both HVST and GEAR have management expense ratios of 0.80 percent whereas Vanguard’s VAS is 0.14 percent and iShares’s IVV is 0.04 percent.

Nevertheless, I do recommend many products from Betashares. One ETF that I am interested in from Betashares is their new sustainable ETF called the Betashares Global Sustainability Leaders ETF (ETHI). I normally buy ETFs in batches of $10k to $25k at a time, so I intend to buy a batch of ETHI and write a blog post about it later. I have mostly positive views about Betashares as they provide a great deal of innovative ETFs.

Update 18 June 2017: The poor price performance of HVST is explained in the Betashares blog article Capital vs. Total Return: How to correctly assess your Fund’s performance. If performance includes income as well as franking credits, the gross performance of HVST looks more favourable.

Advice to Millennials: Don’t Buy a House

Where I live in Australia, most people are obsessive about property investment. There is an assumption that you must buy a house otherwise you will fail financially. As a millennial who doesn’t own a home, people always ask me when I will plan to buy a house or whether I have made any progress in saving up for a deposit on a house. People are either pressuring me to buy a house or to get married.

My response is that I will never ever buy a house. There is simply no need to buy a house when there are investments available that are far better. For example, BetaShares (a brilliant organization, in my opinion) has recently issued the BetaShares Global Banks ETF. This ETF tracks an index that invests in big multinational too-big-to-fail banks. The top 10 holdings are disclosed on the BetaShares website and is reproduced below:

top 10 holdings of BNKS as at 29 July 2016

Investing money in large too-big-to-fail banks, in my opinion, is a wise strategy. For years now, Australians have only had access to Australian banks on the ASX via ETFs such as QFN and MVB. Banks are an excellent investment because typically they pay very high dividends.

The more dividend income you have, the more freedom you have in your life. Dividend income is true passive income because you don’t have to do anything to earn it. Even if you own property and rent it out, you must still find tenants, fix broken showers, and unless you own the property outright you have to slave away at work in order to meet monthly mortgage repayments. Then you pay outrageous taxes such as stamp duty, and every year you must pay bills and council rates, as well as land tax. If you own the BetaShares global bank ETF, you pay virtually nothing other than a minuscule 0.47% management fee. You can literally sit back, relax, do nothing, and watch the dividends enter your bank account.

When you own property, you typically need to borrow money from a bank. If you’re borrowing money from a bank, you’re not generating dividends. Rather, you’re paying for someone else’s dividend income. If you borrow money from a bank, you make the bank rich, which effectively means you’re making bank shareholders rich.

What happens if there is a GFC 2 and bank shares collapse?

This is a fair argument. One could make a strong argument that the financial system is more precarious now than ever. However, even if we are nearing a massive recession (which I suspect we are), I don’t think that is a reason to not invest in bank stocks (or stocks in general) because we don’t know when the bubble will pop, and bubbles can perpetuate for decades or centuries.

When I see a bubble forming, I rush in to buy, adding fuel to the fire. That is not irrational.

~George Soros

Furthermore, if you own a property and the global economy collapses, how will owning a house help you? Property prices can go down just like stock prices can go down.

One of the benefits of owning bank stocks is that, even if these banks fail, many of them are too big to fail. They are so integrated into the economy that in the event of an economic crisis they can hold society as hostage and demand ransom (or bailout money) from the government. The government will typically give money to these banks, either from existing funds or from simply by printing new money to hand to the banks. Once banks receive bailout money, they can use it to repair their balance sheet, and stock prices should go back up again.

Below is a passage from the Financial Systems Inquiry report in Australia:

Global history records governments of all political persuasions using taxpayer funds to support distressed institutions. As undesirable as it may be to put taxpayer funds at risk to support financial institutions, in the midst of a crisis it is often the fastest and most certain option to stabilise the system and avoid widespread economic damage.

Investors can rationally surmise that the government is likely to rescue systemically important institutions if no other options exist, as their collapse would cause the most damage to the financial system and broader economy. This leads to a belief that some institutions are too-big-to-fail — that they receive an implicit government guarantee.

http://fsi.gov.au/publications/interim-report/05-stability/too-big-to-fail/

In a world characterized by wage slavery, big banks are basically the apparatuses of wage slavery. Whips and chains have been replaced with mortgages and credit cards, and banks are the institutions responsible for distributing these instruments of oppression to the masses in order to enslave them.

If the big banks are in trouble, the entire system of wage slavery is under threat, and for this reason I don’t think the government will allow the banks to collapse. They might make one bank fail just to make an example of them (e.g. Bear Stearns) but if you buy a broad-based index fund, you’ll be investing in the entire banking sector, so it’s not a problem.

How can you live without a house?

Of course you need to live somewhere. Shelter is a necessity. However, shelter is not expensive. I currently live with my parents and pay some of their bills. Other people can easily lower costs by sharing a house with others. They can rent (or even buy) a place and then rent out spare rooms. I recommend buying or renting a place far away from the city in order to get the cheapest price or rent possible and then simply use public transport to travel into the city if you need to work.

Living with others can be problematic because it can be difficult to get along with other people, but there are easy ways to fix this problem. Try to find people who are kind and who will not cause drama. Also try not to interact with people you live with too much. Personally I am always out of the house, either at work or at the local library. If I am at home I usually stay in my room. I have food cooked for me, but even if there is no food, I have a large supply of Australian Soylent (Aussielent Body) that I can drink should I need to eat. This ensures I never have to bother with cooking or cleaning, and arguments over who should clean the dishes are common when people share accommodation.

Personally, with food technology so advanced nowadays, cooking and cleaning are quaint, archaic and useless activities that must be eliminated from your life. People are always trying to tempt me into a life of slavery by telling me that I must get married because I need a woman to cook for me, but Soylent has now made the housewife’s cooking skills completely redundant.

Conclusion

You don’t have to buy a house. Live with your parents or find good housemates, and then keep interactions with them minimal to prevent drama.

Drug dealers have a saying: “Don’t get high off your own supply.” In other words, drugs dealers make money off their customers’ drug addiction, but if a drug dealer were to consume his own product, it will be to his detriment because the strength of his business depends on the weakness of his customers. The same applies to banking. Everyone in society is addicted to debt. The “drug dealers” who supply this debt to the masses are banks, and anyone smart enough can become a drug dealer by buying bank stocks or bank ETFs, but as a drug dealer you should not “get high off your own supply,” that is, you should be very cautious about going into debt.

The goal of my life is to produce passive income mainly from dividends. This ensures I can obtain income without working, which gives me freedom. I am not dependent on anyone. Even though I live with my mother, I rarely speak to her as I’m out of the house all the time, and even if she wants me out of the house, I can easily rent a small one-bedroom apartment paid for with dividend income. Most people move out of their parents’ home, buy a house, and drown in mortgage debt, which makes them slaves to their managers. Because I live off dividends, I am not dependent on my work. I don’t need a job. If I get fired or even if I dislike my work, I can simply find a different job that I enjoy or I may even fly off to Chiang Mai where US$1000 per month ensures you live like a king, and in Chiang Mai I can spend all my time in coworking spaces where I can work on whatever I want that I am passionate about regardless of whether it makes money or not since I don’t need income to live since I live off dividends. None of this would be possible if I had a massive mortgage over my head that forced me every month to pay a large chunk of my income to the bank so that other people can collect their dividend payments. I’d rather be on the receiving end of a dividend payment.

Typically when someone has a large mortgage over their head, they have more than a mortgage. A house has associated costs such as electricity and gas bills as well as taxes, and people who are desperate to buy a house in order to keep up with the Joneses are usually trying to show off in other ways as well, so they will likely have expensive furniture, massive kitchens, refrigerators, huge couches, and expensive TVs. People always put me down for being a minimalist. Some do it with more subtlety than others, but people always try to put me down for not owning a house or having expensive furniture or having a trophy wife or multiple children in elite private schools. I am usually very honest nowadays. I tell them I am trying to have more freedom in my life so I can do what I want, and I tell them I am trying to build up dividend income. This usually comes as a complete surprise to most people because most people have been conditioned by society to buy things and to go into debt. All the money they earn is eaten up either by debt or by lifestyle expenses whereas all the salary income I earn is invested. My savings rate is 100 percent, and I subsist off dividends of approx $30k per year. I do not live a hand-to-mouth existence. I am not fed with money obtained from my own labor. I am fed with money obtained by other people’s labor. My hands don’t feed me. Other people’s hands feed me.

Living off dividends and escaping slavery is not about showing off, in my opinion. I have no need to show off to people because I am quite detached from people. As such, other people’s opinions don’t matter because I am not close to them. Most people must care about what others think because they’re forced to be around them due to circumstances, and if they’re stuck with these people, they need to get along with them, which means these other people must have a good opinion of you.

But I don’t need to be around anyone. I am not dependent on anyone for anything. I am completely independent. I am not afraid of bullies. Bullies can bully me, but because I live off dividends, I can use dividend income to block them from my life. I don’t need to suck up to anyone because, unlike salary income, dividend income doesn’t impose upon you an obligation to keep someone happy. I am no one’s slave.

But from my position of freedom, I am a witness to all the manipulation, deceit, propaganda, slavery, and oppression in this world, and I personally cannot be willfully ignorant of it. I cannot close my eyes and pretend that atrocity does not exist in this world.

Doing something about it is the difference I can make. I can spread the word and help vulnerable beings escape from oppression. That is my purpose in life: to be free myself and to help others be free as well.

Can we change the world? No, but hell, we can all try.

~Rupert Murdoch

There is nothing in life more important than freedom. Even if you don’t want freedom, being free will give you the freedom to not be free. Better to be free and have the choice of being a slave or not rather than be a slave and have no freedom to be free.

 

 

 

My Thoughts on “The Big Short”

Yesterday I was watching a movie called The Big Short and it’s an awesome movie about the GFC. The movie makes me wonder about whether we are in for another financial crash. Stock and property markets went down about 50% in America and most countries around the world, but since then central bank injections of cash seem to have restored everything.

This movie blames the property crash on subprime loans, but at the end of the day subprime lending popped the entire American housing bubble. The bubble was there in the first place, and the bubble was in property, not just subprime property but also prime property, which is why property prices in the US fell across the board.

This movie also really exposed how corrupt and fraudulent the financial system is. The biggest injustice of all, in my opinion, is that investment banks created these toxic assets (CDOs, etc) and then when they were worthless they simply did a deal with the government to unload it onto the government in return for printed money (or bailout money). This pretty much means the banks can do whatever they want knowing that if things go wrong they can simply get the government to bail them out. If you or I started a cafe and the business failed, the government will not bail us out. However, this does not apply to bankers, the holders of capital. Capitalism, therefore, does not apply to capitalists. Bankers can create bubbles, create bad assets, and then sell these assets, and if everything goes wrong they can just tell the government to take it off their hands. There should be no bailout, and those who held CDOs should have been left to learn the errors of their ways. By bailing them out, you only reward bad behavior.

Looking at it this way, the banking industry is simply an arm of the government. Banks are simply government business enterprises.

The original view was that if the government prints money to buy these toxic assets off bankers, this would cause inflation, but these toxic assets are usually highly leveraged, and more debt actually increases the amount of the money in circulation, which is inflationary. As debt prices go down (e.g. there is a debt bubble that pops) then this means the expectation is that loans will not get paid, and the amount of money in circulation goes down, which is deflationary. The government printing money simply restores the money supply back to original levels. 

How to invest

My investing strategy is pretty simple. I’ve been focusing mainly on dividends and looking at funds that provide low volatility. The perfect ETF on the ASX, in my opinion, is Betashares’s HVST, which has a double-digit yield and pays monthly. It also uses derivatives to lower volatility by selling futures when volatility is high. If the market crashes, I’m sure this fund will go down, but it won’t go down that much, and while everything is rosy, this fund will produce great dividends, which is awesome.

If there is a GFC 2, I expect to take a hit. My net worth will go down, but I have been loading my portfolio up with funds that are designed to be low volatility (such as HVST) as well as other defensive investments like gold mining ETFs (ASX: GDX) as well as bond funds, and so if my net worth goes down, it won’t go down much, and when the market bottoms, I will definitely be plowing as much money as possible into leveraged ETFs expecting the government to print money to restore the economy. While the market is likely in bubble territory now, it’s also a good idea to keep debt levels low because a major risk when there is a market crash is that a margin call will be triggered. Keeping debt low reduces the risk of this happening. Furthermore, as the market bottoms, if your debt levels are low, you have more ability to take on more debt to invest when the market bottoms, which means you can leverage into leveraged ETFs and achieve “double leverage” to magnify your returns once central bankers start firing up the printing presses.

Bottom line is that at this stage you should load up your portfolio with defensive assets, e.g. cash, bonds, gold, as well as “smart beta” low-volatility ETFs, but don’t go all into these defensive assets because it’s almost impossible to determine when a bubble will pop. As they say, a market can stay irrational longer than you can stay solvent, so often when a bubble is formed, it’s often best to simply ride the bubble and make money, but always have a plan to protect yourself if the bubble bursts. There must be a plan B.