A Note on Strategy

As I’ve delved deeper into the FIRE community, I’ve noticed two distinct trains of thought around how your portfolio should be structured. Colloquially distinguished as either the ‘Bogle’ strategy, named after Vanguard founder and former CEO, John Bogle, or the ‘Thornhill’ strategy, after Motivated Money’s Peter Thornhill. Both men have seen great success in their careers and advocate investing in the stock market as the best vehicle of investment over the long term. So how do they differ?

To understand the differences, first we must understand how investing in stocks returns value to an investor. There are two components of returns; capital gains, and dividends. To illustrate in a simple example, suppose you think Alan Joyce is doing a wonderful job over at Qantas and you decided to purchase $5,000 worth of shares on the 14th February 2018 at a price of $5.03 per share (for simplicity lets ignore brokerage cost and other fees).

At $5.03 per share, your $5,000 investment will give you 994 shares. As a shareholder, you are entitled to a share in the company profits. When a company distributes profits to their shareholders, this is called a dividend. Qantas paid an interim dividend on the 12th of April at $0.07 per share. Given our example, we would have received $69.58. Additionally, we can assume based on Qantas’ dividend history, subject to the company’s financial performance in the second half of the financial year, a final dividend of $0.07 to be paid around October 2018. If you hold your shares until the next dividend payment, over the course of the first year of your investment, you will have earned $139.16.

Now that you hopefully understand how an investor is returned value through dividends, lets talk about capital gains. A capital gain is made when you sell an asset for more than what it cost you to acquire the asset (purchase price + related fees). Suppose your view on Qantas has changed, and you decide to sell your 994 shares today. You check the price, and see that shares are currently trading at $6.83. If you sold at this price, it would represent an appreciation of 35.78% on the original purchase price, or $6,789.02, giving you a profit of $1,789.02 – this is your capital gain. Now, investing in just one company is incredibly risky. The age old adage holds true, ‘Don’t put all your eggs in one basket’, in other words if you invest all your resources in one area, you risk losing everything. This issue lends itself to discussions around diversification which I will cover in another post. Enter Bogle and Thornhill.

How do their approaches differ given what we now know about dividends and capital gains? To put it simply, the Bogle approach focuses less on dividends, and more on capital gains. He advocates in his book that investors shouldn’t look for the needle in the haystack, and should instead purchase the haystack. In other words, investors shouldn’t waste their time trying to pick a few great stocks, but rather invest in whole indexes via low cost exchange traded funds, thus giving them their ‘fair share of market returns’ – whether negative or positive. Bogle places great emphasis in his book on the importance of investing in low cost Exchange Traded Funds (ETFs), and the inability of fund managers to consistently beat the market over the long term. Though he notes the value of dividends, he places far less emphasis on them when compared to Thornhill.

Historically dividends paid by US companies have been much lower over the past 100 years, so it makes some sense to follow this approach for a US based investor. Research suggests that as financial markets (and firms for that matter) mature, dividends decrease.

Conversely, the Thornhill approach focuses on investing in assets that produce growing income streams, and prefers to invest in Listed Investment Companies (LICs) over ETFs. The Australian market is primed for this approach due to two factors; franking credits, and higher dividend yields. Dividend yield is simply an expression of the dividend received as a percentage of the current share price. Top performing Australian companies typically pay a dividend yield around 4-5%, compared with US companies around 1-2%. This return is further improved by franking credits. Franking credits prevent the double taxation of income, as the Australian Government recognises that the company has already paid income tax on dividends at the corporate tax rate of 30%.

To illustrate, consider below the grossed up fully franked dividends:

(3%/70) x 100 = 4.28% gross yield

(4%/70) x 100 = 5.71% gross yield

(5%/70) x 100 = 7.14% gross yield

This makes a huge difference to potential returns, and makes for an attractive strategy for Australian investors.

Thornhill clarifies his views by contrasting ‘speculators’ and ‘investors’, and goes to great lengths in his book to highlight the misuse of the word investor in financial media. Outside of the historical analysis he presents, this simple contrast makes it easy for the financial newbie to understand his methodology. Lets take a look at the literal definitions:

Speculator: ‘a person who invests in stocks, property, or other ventures in the hope of making a profit’

Investor: ‘a person or organization that puts money into financial schemes, property, etc. with the expectation of achieving a profit’.

Considering these definitions, would you base your investment strategy on hope, or expectations? Don’t get me wrong, nothing in the investment game is a sure thing, but enterprises exist to serve a need in the expectation of producing a profit. These profits are ultimately passed on to the owners of the organisation. Conversely, there are only two share prices that will ever be certain, the price you bought at and the price you sold at. Make no mistake, dividends are not a sure thing, but I would rather my strategy be based on the likelihood of billion dollar corporations distributing a profit, than what a random stranger is willing to pay me for my stock holdings.

So how do you implement either strategy? Luckily for us individual investors, there are a range of low costs ETFs on the market. Here are some you may consider:

Fund Name Code MER Market 2017 Dividend Yield
Vanguard Australian Shares Index Fund VAS 0.14% AUS 3.97%
Vanguard US Total Market Shares Index ETF VTS 0.04% US 2.03%
BetaShares Australia 200 ETF A200 0.07% AUS N/A
iShares Core S&P/ASX 200 ETF IOZ 0.15% AUS 3.66%
iShares S&P 500 ETF IVV 0.04% US 1.72%

Whether you are in the Bogle camp, Thornhill camp, or prefer a mixture of both approaches, finding a fund that has a low management expense ratio (MER) is essential. Bogle advocates in his book that if you are paying over 1% on funds under management, you are getting ripped off.

Bogle’s common sense approach to investing suggests you should simply pick a fund with low fee and earn your fair share of market returns (whether positive or negative).

To implement Thornhill’s dividend approach, you could purchase high yielding Australian domiciled ETFs, which will return you franked dividends over the years. So why does Thornhill prefer LICs? The answer is twofold. Firstly, Thornhill has a preference for ‘Australian Industrials’. Or put simply in his words ‘the ASX 200 minus the resource exposure’. In his book, Thornhill notes that resource based company profits are extremely volatile, and in his view speculative. The profit the company can produce is based solely on what they can dig up from the ground. Additionally, Thornhill tends to avoid property investments, noting that Real Estate Investment Trusts (REITs) are obligated to pay out all profits to shareholders. In other words, REITs can only invest in new ventures by raising more capital, and not by reinvesting income. Given ETFs replicate the whole market, there would be no way to avoid holdings in these assets.

Secondly, during downturns (such as the GFC), dividend income is likely to reduce as a result of poor performance. In retirement, this could pose as an issue for those relying on a steady stream of dividends to survive.

Enter the Listed Investment Company. To put it simply Listed Investment Companies are organisations that invest in other companies and financial assets. As such, they can choose where their (your) money is going. Companies such as Argo, Milton, BKI and Whitefield do exactly this, investing in certain companies and financial assets that fit their investment methodology. Now, if you are like Thornhill and want to limit your exposure to resource stocks and property, LICs may be a good choice for you. It must be noted however, due to the active nature of LICs (i.e. a fund manager deciding where your money goes), they risk under performing the market as a whole. Like ETFs, LICs can be purchased with relative ease via your broker.

So how do LICs address our income stream issue? Being that they are an organisation, LICs can retain profits made from investments. This means that they have the ability to ‘smooth’ dividend payments during economic downturns with their cash reserves. For the financially independent retiree, this could mean a world of difference during turbulent times.


Which side of the camp are you on?




Note: the views on this blog are my own, and in no way represent financial advice. Always seek financial advice from a qualified professional before making investment decisions. For more information, see the Smart Money Australian Government website 

6 thoughts on “A Note on Strategy

  1. Interesting write up – I have long debated Bogle vs Thornhill approach personally and just feel as though Bogle approach has more history and backing behind it whilst Thornhill approach is relatively new in time horizon terms.


    • Each approach definitely has merit. There is just something about selling your holdings and living off the capital gains that doesn’t sit right with me. Unless of course your portfolio grows to a point that you can comfortably live from 1-2% dividend yields.

      I am sure I will continue to debate the pros and cons of each up until I make my first investment.


  2. Interesting post. I’m not sure Bogle would see himself in the camp of not focusing on distributions. He has said that he considers himself as an owner of all his shareholdings, and that his ‘favourite holding period is forever’. Also, unlike Thornhill, he invented a type of investment fund that has garnered world wide attention and a major proportion of the worlds managed assets. Thornhill is a pretty localised author, with a book and speaking series to sell.


    • I don’t disagree with your comments on Bogle. I still think Thornhill’s approach has a lot of merit for Australian investors. I did in fact purchase his book, and the way he lays out his thoughts and methodologies are definitely worth the $30 I paid.


  3. It’s great to see a blog starting from debt reduction. I look forward to seeing your paydown journey!

    Yes, these are the investing dilemmas that I am grappling with to. As I have begun building my portfolio, I have decided to use a mixed approach. Broad-based total market index funds for international diversity and LICs for Australian based. I definitely prefer the idea of investing for dividend growth over the SWR. The SWR seems more suited to a climate of lower dividends.

    When taking into account dividend reinvestment, there seems to be minimal difference between success of either strategies in my book.


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