May 2016 Review & Comments
Written by Tony Gray   
Tuesday, 14 June 2016 12:26

For those who hold listed assets a note that during May E*Trade Australia rebranded to ANZ Share Investing (ANZ Bank own E*Trade Australia but has not continued to ‘lease’ the E*Trade name from the US company).

Investment Markets

We find the present time a very difficult investment environment.  There are no obviously cheap asset classes and income returns from defensive assets are at record lows.  Australian shares are relatively highly priced – see the table below setting out the market by sector:

Source: Morningstar: 2 June 2016

On the face of it the banks (a large component of the Financials sector) pay a very attractive fully franked dividend and share prices are materially below all-time highs of March/April 2015.  Scratch beneath the surface though and it is apparent that dividend reinvestment plans and issuance of new shares are diluting earnings per share and that bad and doubtful debt provisions have only just ticked up from records lows.  Consensus forecasts for 2017 bank profits, if accurate, would see a larger increase in headline profitability than we have seen in any of the past 3 years.  This seems improbable to us and we consider it likely that forecasts will be downgraded over time.  This trend is not restricted to the banking sector – analysts usually start a financial year optimistically – so be careful of reading too much into FY17 profit forecasts at this time of year.

With interest rates trending lower, we feel it is inevitable that net interest margins for the banks will be compressed – and with wage inflation no better than inflation, we consider it unlikely that there will be sufficient credit growth to maintain headline profitability.  Further dilution of shareholder interests will occur in order to meet international banking rule changes by January 2018.

Gold is proving to be a useful diversifier and some form of gold and/or gold miner exposure is worth considering.  The pre and post 2007 period (through until 2011) also demonstrated that gold can do well when equity markets are rising – so holding an exposure is not simply a hedge against negative returns for other asset classes.  The holding cost of gold is presently very low – especially when some 60% of government debt on issue globally is now yielding less than 1.0% p.a!

We are finding an array of smaller and non-core assets that represent attractive value.  These may not suit some portfolios, in which case there are a handful of active managers that can provide a diversified exposure.

We are not sure how far down the low interest path Australia will proceed.  In the United States interest rates appear to be gradually normalising; but Australia’s borrow and spend approach puts us more in the Europe/Japan/China camp and risks are to the downside for local interest rates.  Despite low interest rates, we are continuing to roll-out maturing deposits for the extra income relative to at-call interest.

From a planning perspective, we are assuming an extended period of low total returns.  For those required to draw regular income, we can assess the sustainability of drawings on a range of return assumptions.

As always, please make contact with any questions about your portfolio and positioning.

Best wishes,

A.W. (Tony) Gray BCom, LLB, Dip FP, GDipAppFin, CFP, FFin
Principal, TG Financial

Last Updated on Thursday, 16 June 2016 11:17

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