Taking Assessment of my Portfolio in 2006, Part 1: The Bottom Line

Now that I have settled in a little bit - I am ready to take a look at the performance of my net worth over 2006. Last year doing this in-depth analysis revealed to me I was masking poor investment returns with my high savings rate. By looking at my sizable net worth increase over 2006 I am optimistic things have improved over the past year.

My first step is to determine how much of my net worth gains over the past year were from savings (or retained earnings). I need to back out these savings to determine how much of my net worth gains were from the performance of my investments in my net worth.

Assumptions for Assessing Investment Returns
Let me begin by making some assumptions about how I want to treat various transactions on my balance sheet:
-my rental house is an investment so I will treat the mortgage principal paydown as investment return
-Any principal payments to my mortgage for my primary residence will be treated as retained earnings to adjust for net worth change calculation
-401k company matching will be treated as investment returns
-My vested cash balance pension is not an investment return - it a company benefit that I will treat like retained earnings.
-I am going to ignore taxes on investment returns such as dividends and interest. Most of my dividends are immediately reinvested in more stock and at the end of the year I have to pay tax out of pocket for those dividends. Accounting for this would be too painful and I don't think it would significantly impact my investment returns.
-I'm going to ignore the return on any investments made over the course of the year for now. This may result in my calculated return being slightly higher than my TRUE return. If time permits I will consider using the Dietz method to come up with a more accurate measure of my investment returns.

Step 1: Formula for Entire Portfolio Return
To start this analysis I thought I could get a rough idea how I faired by using this simple formula:
[12/31/2006 Net Worth] - [Net Worth 12/31/2005] - [2006 Retained Earnings] = [2006 Investment Returns].

I already have my 12/31/2005 net worth and 12/31/2006 net worth so all I really need to calculate are my 2006 Retained Earnings.

[12/31/2006 Net Worth] - [Net Worth 12/31/2005] - [2006 Retained Earnings] = [2006 Investment Returns].

[$317,904] - [$206,990] - [2006 Retained Earnings] = [2006 Investment Returns].


Step 2. Figure out what I retained from my earned income
So with that I needed to calculated what earnings I retained in 2005. This basically means I need to figure out what part of my earning went to boosting my net worth.

I start by finding out what my net cash change is. I total the change in savings, checking, and credit card accounts and subtract out any dividends, interest, etc:

Net Cash Change in 2006

 

Checking/Savings Increase

$ 8,893.02

Back out Rental Net Cash

$ (1,810.36)

Back out Cash Dividends Received

$ (483.01)

Savings Account Interest

$ (1,426.15)

Total

$ 6,599.65

Then I need to add in retirement account contributions and investment account contributions:

Retirement Account Deposits

 

401k Contributions

$ 15,667.35

Roth IRA Contributions

$ 5,300.00

Vested Cash Balance Pension

$ 18,483.38

Total

$ 39,450.73

*Note: My 401k contributions do not include the company match (I'm am going to treat the match as an investment return in this analysis). They do include after-tax contributions that the IBM 401k plan allows employees to make. I have discussed more about this after-tax contribution 401k feature here.

Investment Account Deposits

 

Pfizer DRIP

$ 1,030.00

Medtronic DRIP

$ 1,000.00

ExxonMobil DRIP

$ 100.00

CMS Energy DRIP

$ 25.00

Duke Energy DRIP

$ 350.00

Lowes DRIP

$ 500.00

USG DRIP

$ 600.00

IBM ESPP

$ (8,013.88)

Bellsouth DRIP

$ (4,798.17)

Sharebuilder

$ 4,000.00

Total

$ (5,207.05)

I also need to include the principal payments and large downpayment I made on the primary residence I purchased in 2006. I include these items as retained earnings since these were items that boosted my net worth but had nothing to do with investment returns:

Principal Payments on Primary

 

Property Downpayment

$ 24,225.00

Mortgage Principal

$ 510.00

Total

$ 24,735.00

Ok now lets total this all up:

2006 Retained Earnings

 

Net Cash Change in 2006

$ 6,599.65

Retirement Account Deposits

$ 39,450.73

Investment Account Deposits

$ (5,207.05)

Principal Payments on Primary

$ 24,735.00

Total

$ 65,578.33

Ok it looks like I retained $65,578.33 of my income (from earnings and company benefits) based on the assumptions I detailed earlier.

Step 3: Compute My 2006 Investment Return
Now we just plug the retained earnings in and compute what my total return was:

[$317,904] - [$206,990] - [$65,579] = [2006 Investment Returns].

This is going to be alot better than last year......

[$317,904] - [$206,990] - [$65,579] = $45,335
This rocks - we are talking a 20%+ return on my net worth! Quite a dramatic shift from the 1% return I earned last year. Average the 2 years out and I'm at a rate of return above my 10% target ROI.

Stay tuned for Part 2 as I dig into why my ROI is looking so good.


December 2005 Net Worth

$206,990

Part 1: 2006 Retained Earnings

+$65,579

Part 2: 2006 Retirement Accounts

+$17,504

Part 3: 2006 Cash Accounts

+ $1,426

Part 4: 2006 Investment Accounts

+ $7,951

Part 5: 2006 Company Ownership

+ $9,075

Part 6: 2006 Rental Property

 

December 2006 Net Worth

$317,904

2005 Net Worth Performance

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Comments (12)


Hey fantastic! Wow 20%+ congrats! We are at around 12%+ but that's due to our number being much bigger than in the past (% can be harder to grow the larger the balance sheet gets).

Hey, I did not know what retained earnings were until you used it here, interesting method!

Are you sure you're over 20%? If you take the gain of $45,335 divided by an 'average' basis of $239,779.50 (($206,990+$65,579)/2) you get a return of 18.9%. The Down was up over 16%, plus dividends of say 2%. So, you pretty much matched the market, by my calculation. That is a big achievement, and something that most actively managed mutual funds didn't accomplish.

Looking forward to the ROI post, 20% is pretty good.

Another question -- how are you able to boost net worth by $10,000 or so per month? Are you calculating a 401k match, home equity, or something else to boost that figure?

CPA - Yes, I opted to simplify my analysis using just my begining balance. I wanted to keep the analysis consistent with last year - the result is a higher % return than is probably accurate.

I have considered using the Deitz method, and if time permits will follow up with those #s.

Query, see my net worth statements for details fo each month. Yes I do include 401k match and home equity (using cost basis).

Excellent analysis. I'll be glad when my numbers looks like yours without negative signs in from of them!

2mil, wow, 64k in retained earnings. That is a lot of money.

Maybe you can explain a few things. It looks like the 401k and IRA deposits are over the limits for the year (15k and 4k right?). Also your vested penson is 18k (i think you are calling this a windfall right?)

Last thing, what about the 24k downpayment? was that entirely taken from your paycheck? or did you sell some stock or something? if you did the latter, can this be considered as "retained", since you are simply moving money from one pocket to another pocket? (As i understand it, RE is the amount of money you brought in via working, that didn't go towards paying expenses (ie mortage interest, food, utilities, insurance). This would mean any stock you bought and any money you added to your accounts (ie banking or "house bank" (i mean the equity in your home) should be part of your RE)

I am a new reader and really enjoy your blog. This analysis is really helpful for me because it breaks down everything very simply. I've read quite a few of your archived posts and am learning a lot. Thanks for sharing your information!

How were you able to contribute more than $15,000 to your 401(k) and more than $4,000 to your Roth IRA?

Interesting, my attempt at a 'Deitz' calculation yielded the same 18.9% that my simple average did.

In any case, you had a strong return. I'm interested in learning the details.

Quick answers to the retirement contributions:
401k - IBM allows you to make after tax contributions to a 401k that I used for a little while in 2006.
Roth IRA - I made contribuitons for both the 2005 and 2006 tax years in the 2006 calendar year.

Here's an article from the NYT to consider. Link.

Article basically says financial institutions overestimate the amount people need in retirement, so that financial advisors can increase their fees.

I'm encouraged by the article -- for those of us who understand the value of a dollar and the power of compounding, it means we'll be that much better off by socking dollars away.

It's a good read.

2mil,
Just wondering about a few of the numbers. It looks like the 401k and IRA contributions are already talked about. I didn't realize that you could make "post tax" contributions to a 401k. My employer (E*TRADE) doesn't allow it.

The second interesting point is the downpayment for the house. Did this money come directly from your paycheck? As you are using the RE term, RE is the excess money you brought in working that didn't go towards paying the bills. (Technically if you were a real biz, RE would be whatever was left over that you could reinvest into the biz after you paid the bills and paid the dividends. So this would include investment returns.). In anycase, if the down payment came from stocks, then this isn't really part of your RE, right? it should be considered just moving the money from one pocket to another.

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A personal finance weblog of my journey to reach my goal of $2 million + the value of my primary residence.
Current Net Worth: $1,574,185

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