September 2016 Review & Comments
Written by Tony Gray   
Friday, 21 October 2016 11:41

Portfolio Report – October 2016

We now have a clearer idea of what the legislative landscape is in relation to superannuation – at least for the current financial year. Please do not rely on the summary below to take action without confirming with us – with details to be worked through at a legislative level and in any case we need to consider at an individual (Personal Advice) level.

In essence the pre-existing rules will apply to the end of June 2017 – so out goes the backdating of a limit on after-tax contributions. The availability of what is known as ‘the bring-forward-rule’ remains – meaning up to 3 times the current $180,000 annual non-concessional limit, or $540,000 is available.

Whilst not legislated, it now seems likely that from July 2017 the following rules will apply:

· Concessional Contribution limits (i.e. employer, including salary sacrifice, or self-employed deductible contributions) will be cut to $25,000 per annum (from $30,000 for those under 50 and $35,000 for those over 49 at 1 July 2016). This includes any Super Guarantee Contribution amount.

· The extra 15% contribution tax for high income earners (presently >$300,000 including super contributions) will apply to incomes above $250,000 from July 2017 - bringing the net contributions tax to 30%.

· Contributions made out of after-tax money (Non-concessional Contributions) will be limited to $100,000 per annum from July 2017 (down from $180,000) – and only if your super balance is below $1.6 million. The ability to boost superannuation balances in the lead-up to retirement, perhaps from the sale of other assets, is now severely constrained.

· A maximum pension balance (per person) of $1.6 million will apply from July 2017 – any amounts above this will move into the normal superannuation phase – meaning earnings will be taxed (i.e. 15% on income and 10% for capital gains on assets held longer than 12 months).

The ability to deal with taxable components within superannuation from July 2017 will be very limited – meaning the risk of a ‘death tax’ on payments to non-dependent beneficiaries or estate remains.

For larger superannuation balances (>$1.6 million) careful planning on how to keep taxable and tax-free components will be important prior to 1 July 2017.

Middle-aged generations are significantly disadvantaged. Lower starting super guarantee contributions when entering the workforce; age based restrictions that applied until 2007 and now lowered contribution limits and extra tax, if a high income earner, make it a challenge to build a sizeable super balance.

For younger generations, starting early and contributing close to the maximum over many decades is key to building a meaningful superannuation balance – a challenge where travel, housing, education and family costs will take priority for many.

The biggest positive is that people who had plans disrupted by the May 2016 budget changes now have the ability in the current financial year to complete contributions and perhaps bring forward some pre-retirement strategies. The next positive is the ability to continue to make non-concessional contributions (albeit with lower annual limits) up to the $1.6 million maximum pension figure, rather than the more prescriptive $500,000 cap.

From now to June 2017 will be a very busy financial planning period for us, so on the one hand please contact us with any questions in relation to your position and approach, but understand we are fitting perhaps 3 years of planning work into the next 8 ½ months. Whilst we may make an occasional exception, we don’t intend accepting new clients until July 2017.

Investment Markets

We remain extremely concerned about bond markets and what to us seems extraordinary complacency. We don’t understand how rational investors would pay money to government to lend them money (in some cases for decades), especially when some of those governments have chronic budget deficits, ageing populations, massive unfunded public sector pension liabilities and large existing debt obligations. Those holding or buying long dated bonds must be doing so on the basis that interest rates will either (a) decline further, providing a capital gain; (b) not rise for the next few decades; or (c) that if bond yields do begin to rise that they will be able to hedge or exit bond holdings to avoid losses.

Beyond the short-term, we don’t believe scenarios (a) or (b) are sustainable, nor do we believe scenario (c) is likely. Our view is that any meaningful move to sell bonds will drop bond prices and push up bond yields. There is little or no coupon value buffering returns and relatively low rises in long bond yields will at some point result in significant falls in value and with secondary valuation impacts on growth related assets. History is clear in one respect, when ultra-low interest rate periods end, they end swiftly and savagely.It seems to us that holders of long dated bonds are now speculators – with attendant capital risks.

This is a problem, as valuations for growth asset classes (property, shares, and infrastructure) are priced off bond yields. We see assets trading on very high earnings premiums (e.g. healthcare stocks), geared utilities and infrastructure, and listed property as the biggest risk when bond yields rise. The global economy and Australia remain very poorly positioned for any slow-down in growth – with global debt (private and government) now double the size of the global economy.

Gold has not been acting as a hedge in the past month or so and whilst probably still in a long-term up-trend, is presently easing back. We’re inclined to take some gains for portfolios holding gold equity exposure at this point and hold the cash.

In some cases we have purchased index put options as a partial hedge for portfolios – but this is something that may not be available for some portfolios (depends upon your investment structure) or may not be appropriate.

Our main strategy is to exit assets that disappoint, avoid the areas we consider to be most at risk and hold extra at-call and deposit funds. This will result in under-performance if bond and growth markets rally, but is also the simplest strategy to preserve capital value.

There is no certainty as to timing of a bond market bust.

We don’t mean to frighten with the above discussion – merely emphasise what seems to us to be a risky situation that the prudent investor ought to consider with reference to your position, needs and goals. We are identifying individual assets that justify inclusion and that in our opinion are not as vulnerable to shocks.

Best wishes,

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

Principal, TG Financial

Please treat the above comments as General Advice or general information, with no action to occur until we have considered with reference to your financial position, needs and goals.

Last Updated on Friday, 21 October 2016 11:58

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