SDN123 wrote:There are some “false” (eg misleading) benefits:
- there are no inherent costs in drawing down (dividends come free, selling includes a fee). But, of course, if I reinvest some of the income there ARE running costs - buying fees plus stamp duty.
Some care needed there, I think, about the difference between running costs and setup costs. To illustrate the principle in an investment with considerably less variability to muddle one's thinking, if I were to buy a holding (in a non-HYP portfolio) of very long-dated gilts that were certain only to mature after my death, the buying costs would be setup costs. If I were later to find some spare cash and buy more gilts to add to the portfolio, the costs of that purchase would also be setup costs (and it wouldn't make any difference to that whether I happened to choose exactly the same type of gilt - i.e. whether it was a new holding purchase or a top-up purchase). In neither case would any of the buying costs be running costs. But if for instance I'd decided on a strategy of investing in gilts with 5 years to maturity, I would have to expect an average of 20% of my portfolio to mature each year, giving me cash that has to be reinvested if I want to maintain my portfolio's returns. If reinvesting them incurs buying costs of 1% of the amount reinvested, then that costs me an average of 0.2% (i.e. 1% of 20%) of the portfolio's value per year to keep it running as intended - i.e. the portfolio's running costs are 0.2% per year.
So the principle is basically that the running costs of a strategy are the recurring costs associated with keeping it running as intended. That "as intended" does of course beg the question "Just what is intended?"... And that's the key to your point: when trying to determine the running costs of a strategy, one needs to know a detail that isn't normally thought of as part of "the strategy", namely the way the investor intends to run it. Without that detail, the "running costs of the strategy" is an ill-defined concept.
In this case, it's not exactly seriously ill-defined. If I run a mature HYP without any dividend reinvestment and you run an initially-identical HYP reinvesting 20% of the dividend income, my buying costs for the buys made with dividends are clearly zero and you're making buys with something of the order of 1% (20% of a 5% portfolio yield) of the portfolio value per year, and so the buying costs for those purchases are something of the order of 0.01% of the portfolio value per year. I.e. the running costs of your exact strategy are very roughly 0.01 percentage points above those of my exact strategy. So the "running costs of our HYP strategy" is not actually a completely well-defined concept, but it is defined to within about +/- 0.01 percentage points - which I suspect most people would regard as well-defined enough!
But you're right in that HYP strategies do have running costs due to purchases - not just the ones that include dividend reinvestment in their exact intentions, but essentially
all HYP strategies: the only exception is a HYP strategy run with the intention of never reinvesting
any cash returned by the portfolio. That's a
very odd intention for an investor to have, due especially to takeovers returning cash in very large chunks very haphazardly: HYP1 for instance has had one takeover for cash in 2001, none in 2002-2005, a total of five in 2006-2008 and none since, and those six takeovers have returned somewhere in the region of half the portfolio's value... Running a portfolio that way is basically playing Russian roulette with how much one has invested in it, so basically I would say that
all even moderately sensible HYP strategies have running costs.
Roughly how much are those running costs? On a single-year basis, that same large variability in terms of how much reinvestment of takeover proceeds is needed means that the answer can only be "highly variable", so any attempted numerical answer can only really be a long-term average. And takeover proceeds are not the only form of non-dividend cash return one might very reasonably feel needs to be reinvested to keep the portfolio running as intended: corporate actions consisting of a cash distribution (usually a special dividend) accompanied by a share consolidation are another prime candidate, since the share consolidation reduces one's dividend income even if (as usually happens) the ordinary dividend per share isn't normally changed markedly afterwards. Such corporate actions generally return much smaller amounts than cash takeovers, but are quite a bit more common (I don't have the exact number for HYP1, but its most prolific user of such actions (Intercontinental Hotels) has produced more than six on its own!), so that their total effect on the portfolio's value is still fairly significant. As a very rough ballpark figure, HYP1 (which basically reinvests the proceeds of takeovers and such corporate actions, and little else) has ended up reinvesting a long-term average figure of 5% of its value per year, resulting in ballpark long-term-average buying costs of 0.05% of its value per year.
So basically:
* Yes, HYPs do have running costs - very small ones, but not zero (as a long-term average).
* Yes, whether one reinvests some of those dividends does make a difference to those running costs - but not all that much of one: order of 0.01% in running costs that are of the order of 0.05% (again, as a long-term average).
* Personally, I would regard those figures as small enough that "false" and "misleading" aren't really appropriate ways of describing claims that HYP have no running costs - "not pedantically accurate" or "not strictly true" would come closer, I think.
Finally, one caution: when comparing running-costs figures for a portfolio you run yourself with published figures about the costs of investment trusts, unit trusts, OEICs, ETFs, etc, take care to compare like with like. For example, when I last looked several years ago, "Total Expense Ratios" or "TERs" were specifically defined to
exclude trading costs incurred within the underlying portfolio - so when comparing with TERs, the appropriate figure for a HYP really was zero (*). That's in the past tense because I'm not certain to what extent TERs even have an official definition any more - they've vanished from the FCA Handbook glossary, which was where I last saw one. But the following quote (with my bold) from
Wikipedia indicates that it's still typically true (with my bold):
"
Typically it consists of the annual management charge (AMC), the fee that the fund company charges annually to manage the fund (typically commission paid to fund managers), plus 'other' charges incurred with running the fund. These other charges can consist of share registration fees, fees payable to auditors, legal fees, and custodian fees. Not included in the total expense ratio are transaction costs as a result of trading of the fund's assets."
(*) Unless one wants to place a value on the
time one has to spend on managing the HYP. Even valued at minimum wage rates, the time one spends on researching and making a decision about a single takeover replacement or a rights issue might be quite significant compared with the average trading costs incurred per year...
SDN123 wrote:- I have no doubt that total return and capital values matter, it is possible that over my investment / drawdown timeline high yield turns out to be les than optimal for TR but it is also possible it turns out to be a great approach. I can’t know which is best for me until it’s too late!
Yes, indeed, "capital doesn't matter" simply isn't true. At best, it's oversimplified shorthand for "capital fluctuations don't matter", "there are lots of more effective uses for your available investment research time than looking at share price histories" or something similar. Those aren't necessarily true either, but they are positions one can reasonably take - i.e. not
obviously false.
SDN123 wrote:- Tax situations are too personal to help differentiate between strategies.
??? I don't see how that can be seen as a claim of a benefit of HYP strategies at all - true, false, misleading or anything else. It's basically just saying that recommendations given on a tax basis about using HYP strategies without
either knowledge of the investor's tax situation
or a qualification restricting it to some tax situations can be pretty misleading. For example, "
non-tinkering HYP strategies are a poor choice because they don't make use of the investor's CGT allowance" is poor advice compared with "
for those investors whose investments are not all in ISAs and SIPPs, non-tinkering HYP strategies are a poor choice because they don't make use of the investor's CGT allowance". Hopefully no-one would be misled by the first to the point of it actually costing them money, but those whose investments are completely tax-sheltered but who lack a good understanding of the tax system could easily waste a fair amount of time trying to work out how to get an advantage from using their CGT allowance...
Gengulphus