Saturday, November 26, 2011

COI and ROI – Refined Cash Flow Allocation


We have decided how much interest and how much dividend income we want. But there are many ways of generating these income streams. We don’t have to stick to one income source and we can set the proportion that such an income source should contribute. Thus we may have interest income from cash, interest from long term bonds or income generated from investing in a Mortgage Investment Corporation (MIC). This is what we do in the section of the Income Stream Allocation spreadsheet shown below.


To remind you, yellow fields are for the user to set, the blue fields are calculated based on user input.

The spreadsheet allows for 5 types of interest income and 3 types of dividend income. What proportion is generated by each type depends on the investor; his/her risk tolerance and the existing economic conditions. Right now for example, interest from long term bonds may be risky because the chance of capital losses on long term bonds in a low interest environment is quite high. It also depends on how you buy the long term bonds; e.g. through an ETF or directly. In an ETF the bonds do likely not reach expiry and you could incur capital losses; when you hold the bond outright, you could let the bond mature and recover all principal without capital gain or loss. However in that latter case, you still would likely incur a loss of purchasing power (inflation) which is not tax deductible. Etc.

So you must think carefully about how to allocate these types of income. The good news is in doing so, you diversify your income streams even further. The current spreadsheet shows my current preferences

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