The latest National accounts show Australia’s gross domestic product fell by 0.5% in the last three months of 2008. The day before the above figure was released the Reserve Bank of Australia paused it’s aggressive cycle of rate cuts, expressing confidence that substantially lower interest rates and a massive increase in Government spending have cushioned the economy from the worst of the global downturn.
For many investors, it is difficult to comprehend whether or not we are in the late stages of a bear market. What is clear however is the Australian economy is in far better shape than the global economy, and the Australian share market has been more resilient to the mounting global and local adverse economic data over the last few weeks.
Corporate Australia has commenced its rebuilding process by lowering labour needs and reducing debt in order to capitalise on any economic recovery. For many individual Australians the lowering of interest rates and a reduction in the price of petrol and consumer goods has meant an increase in disposable income. The recent and future Government initiatives, the further lowering of interest rates and a reduction in tax rates will provide further relief.
What does all this mean for investors? Firstly the likelihood of purchasing overpriced assets is lower and the need to rebuild your portfolio is critical.
At BDO Wealth Management we have identified two distinct investor profiles;
| Profile 1 - Rebuilders | Profile 2 - Accumulators |
| These clients have been actively investedin all areas of property and the share market over the past few years and have endured a substantial asset value reduction. | These clients have had very limited exposure to property (other than the family home) and share market assets and have recently benefited from an increase in their disposable income. |
The ‘Rebuilders’ understand the need to rebuild their assets but are understandably very cautious. Most however understand that doing nothing is not an option and as incremental signs of market recovery occur, most clients will slowly emerge from their current pessimistic state. To prepare for the rebuilding stage we have developed a number of strategies, which take advantage of the current market volatility but importantly also reduce investment risk.
The ‘Accumulators’ are also starting to emerge. While they have not previously invested substantial amounts, they now believe value exists at these levels. Armed with an increase in disposable income, they are taking the opportunity to commence long term investment strategies, provided they have employment security. This is a change in sentiment we had not witnessed in previous months.
Whether you are re-building your investment base or commencing your investment strategy, the following factors should be assessed;
Understand your cash flow. Prior to making any financial decision (personal, household or business) this should be the starting point but is often overlooked and certainly underestimated.
Review existing finance arrangements. The recent rate reduction (and with indicators suggesting another significant rate cut) offers an excellent opportunity to dramatically reduce your interest cost. This can be very significant for clients with large mortgages.
Review all expenses including most people’s largest annual liability, tax and assess the various tax minimisation strategies available.
Review current insurances. The recent bush fire tragedy highlights the importance of reviewing all aspects of insurance, be it personal (your life and your income) or general (home or car).
Superannuation. Take the opportunity to review your current superannuation arrangements and ensure that your biggest asset outside of your family home is being professionally managed to ensure you meet your financial and lifestyle objectives.
Look for opportunities which trade off current market conditions. There are significant benefits in purchasing assets when they are undervalued i.e. Purchasing shares when they are priced at historical low price to earnings ratios and high dividend yields. Additionally there are investment opportunities which utilise the current market volatility while reducing risk.
At BDO Wealth Management we want to ensure all investors commence taking steps to position themselves to achieve their financial and lifestyle goals over the next 3 – 5 years. We encourage you to ‘take the first step’ by contacting the BDO Wealth Management team.
The Australian dollar reached a 25 year high of US$0.98 in mid-July 2008. This was on the back of a growing economy led by the booming resource sector and strong commodity prices.It was also propelled by the coincidence of a period when US interest rates were falling and Australian rates were rising.
Economic confidence globally has changed dramatically since then to the point the A$ (as at 24 October) had reached a five year low of US$0.62, representing an almost 40% slide in value. The trigger was the US House of Representatives failure to pass the initial US$700billion bailout plan. From that point, financial markets abandoned high-yielding currencies such as the A$ and sought the safety of US dollars. Historically, this has proven to be predictable behaviour when investors become nervous and hence very risk averse during times of economic upheaval.
Furthermore, doubts about the continued strength of Chinese growth (hence lower demand for resources) and the prospect of further interest rate cuts will serve to keep the A$ at relatively low levels for the foreseeable future.
The impact of a low Australian dollar is varied depending on your perspective. During the course of a normal economic cycle, a low A$ would put pressure on inflation and interest rates. However, we are in the midst of unprecedented circumstances with government and regulatory intervention breaking the conventional nexus by taking action that could potentially fuel inflation but drive interest rates lower. This creates an interesting backdrop.
For the broader economy and the share market, the traditional assessment of a falling A$ is generally “good for exporters” and “bad for importers”. However, this assumes “all other things are equal” and history shows that the relationship between the A$ and the Australian share market can be quite ambiguous.
In local share market terms, a fall in the A$ is generally good for company profits in its own right, but it’s normally associated with weak economic growth which retards profitability. This explains why the performance of resource shares usually falls with the A$. It is also worth noting that periods of A$ weakness are normally negative for the relative performance of small cap stocks, because they suffer more from higher import costs. Additionally, they have less exposure to global earnings than large caps.
Despite this ambiguity, the last four and a half years are a classic example of a rising A$ not being bad for the share market. Since March 2003, the A$ has risen from US$0.60 while the Australian share market has more than doubled. This has been followed, within three months, by a period where the A$ has fallen almost 40% alongside a share market losing around 30%.
On the international scene, Australian investors who have exposure to foreign share or bond markets, the currency depreciation is a much needed boost during the current global financial crisis. The benefits of being unhedged during the last three months would have yielded a significant return, offsetting losses on underlying physical assets. With the current low point of the A$, it does bring into consideration thoughts of tactical currency hedging which may have more upside than downside at present.
In spite of the fact that we as investors are continually told to expect investments to fluctuate up and down, it is no less worrying when we experience dramatic downturns in investments, as at present.
Information sources such as the financial media bombard us with negative market and economic commentary, causing us to feel that we should take some action in response. This can result in us starting to question our long term financial strategies and lead us to make impulsive, “knee-jerk” decisions that we may later regret.
The emotional experience of investing becomes heightened during periods of volatility, and can fluctuate from greed and complacency when markets are performing well, to fear and despondency during a downturn such as we are now experiencing.
At this stage in the market cycle, negative investor emotions are dominant. Please click here to view graph illustrating how investor sentiment behaves through a normal full market cycle.
We feel that we have now moved past the point of capitulation and are nearing despondency. This is where it is easy to lose sight of the purpose behind a diversified portfolio of investments.
How can you avoid falling prey to the market emotions? Here are a few suggestions:
The above points appear sensible, logical and easy to follow but as an investor how can you ensure you adhere to them when making decisions about investing?
Here are some questions that may assist you:-
Some may say this is common sense and you ask yourself these or similar questions when making investment decisions. However, should you wish to discuss any aspects of this further, please contact your BDO adviser.