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It is widely agreed in investment markets that asset allocation accounts for a large part of the variability in the return on a typical investor's portfolio. However, surprisingly many advisory groups who acknowledge this fact have static or fixed allocations to the major asset classes. At FYM we firmly believe a dynamic asset allocation policy is needed to capitalise on the fluctuating investment fortunes of each asset class. With that in mind, we thought it would be timely to discuss the current value on offer in cash, fixed-interest and share markets, and outline the reasons why we are currently advocating clients have an overweight equities exposure.
- Cash Rate - 4.75%
- FYM Fixed Interest Portfolio - 8.03%
- Australian Shares - Not only do we believe there is the prospect of substantial capital upside in the share-market but it is also worth noting it is paying a near record-level grossed-up yield of 7.5%. And listed Australian companies increased this payout level by 9% over the last reporting period, indicating both their balance sheet strength and their confidence in achieving their forecast earnings.
One sector we feel offers outstanding value...Read Entire Article
Next week we'll be taking a closer look at Europe and the opportunities, if any, it presents.
The last two days have seen world share markets plunge on the back of fears of a global recession. Precipitating this panic has been the continued inability of the EU to resolve its debt crisis, weak manufacturing data out of China fuelling fears its economy is stalling, a statement by the IMF that the world economy is in a “dangerous phase” and most significantly what was perceived as an inadequate policy response by the US Fed in the face of what Ben Bernanke conceded were “significant downside risks” to the US economic outlook.
On Wednesday the Fed unveiled its latest plan to stimulate the economy, dubbed “Operation Twist”. It intends to purchase $400 billion of Treasuries with maturities of six years to 30 years, while selling an equal amount of Treasuries with remaining maturities of three years or less, by the end of June 2012. The proposed action would see an increase in the yield of the short term maturities and a reduction in the yield of its long term counterparts. The rationale behind this “twisting” of the two rates and flattening of the yield curve is that longer term interest rates are generally used when calculating mortgage and lending rates and by making these rates more attractive you would safeguard credit and inject liquidity into the economy.
The unveiled proposal proved a massive disappointment to investors who had hoped for a stronger policy response, particularly in light of the Fed’s gloomy assessment of the world’s largest economy. In addition, there was also broad-based doubt as to whether or not this operation would have the desired effect. Underscoring this scepticism was the fact that three out of ten voting officials opposed the action, highlighting continued divisions within the central bank as it tries unorthodox new ways to provide support to the economy.
As mentioned, on the back of this announcement, investors promptly exited the share market on masse seeking the relative sanctuary of bonds whose yields dropped to their lowest levels in over sixty years with the 10-year Treasury note yield falling to 1.72% and the 5-year yield to 0.78%. However, it is important to remember that markets were also sold down on the announcement of QE1 and QE2, with most analysts believing they wouldn't have much effect on market. History shows that once the liquidity began to flow the stimulus to the economy and market was profound.
So where to from here? With the anaemic yields on offer in the bond market you certainly aren’t generously compensated for being risk averse, particularly when one factors in the average yield on offer in the share market. However, there are certainly some near-term issues that will create volatility in stock portfolios and investors will again have to draw on their powers of patience as they are resolved. As advisers this feels very much like we have been transported back to 2008. Yet both corporate and private sector balance sheets are in a far more robust situation now than they were then.
As a result, we advocate accumulating and/or holding onto high quality stocks at these depressed prices, believing many offer exceptional long-term value and opportunity. As the famous investor John Templeton once said ““People are always asking me where is the outlook good? But that is the wrong question. The right question is where is the outlook the most miserable?” The situation at the moment could certainly be described as miserable, and we see it as a time to prudently buy or hold as opposed to panic and sell.
Early next week we will provide a follow up article on the relative value of asset classes.
The ATO has released a draft tax ruling that sets out how it determines when a pension commences and ceases.
This is particularly relevant to Self Managed Superannuation Funds.
The controversial issue relates to death benefits payable from a pension. The ATO appears to be saying that, in their view, unless a pension automatically reverts to a spouse on death as a reversionary beneficiary, it ceases to be a pension. The consequences are that the assets are no longer ‘pension assets’ and therefore are no longer held in the exempt (tax free) part of the fund. Therefore when assets are sold down to provide for lump sum death benefits, they will be subject to capital gains tax. Where a death benefit is paid from a pension to an adult child this could mean that a further 10 per cent capital gains tax applies to the assessable capital gains within the fund in addition to the 15 per cent tax on the death benefit. The industry is expected to take a strong stance against the ATO’s draft ruling as it will have a serious impact on death benefits.
For clients of FYM Financial, we set pension accounts up as reversionary, where it is a normal two member fund.
As part of your annual review, we will now also ensure we review the capital gains tax position and ensure that investment asset costs bases are refreshed (i.e. ensure that no large unrealised capital gains build within the fund).
This is a frustrating development, but one that can be easily managed.
As always, should this article or current circumstances give rise to any questions, please do not hesitate to contact us.
A New Appointment - Ben Bowen
We are pleased to announce that Ben Bowen has joined FYM.
Ben is an Investment Manager that we have known within the industry for the best part of a decade now.
He is extremely well credentialled and will add significant depth to our investment capabilities.
Ben graduated from Harvard University in 1996 with a major in economics. He was then one of four graduate students chosen nationwide to participate in the JB Were Graduate Program which involved a three month rotation through all departments of the investment house. After eighteen months he became an Investment Adviser on the Wholesale Dealing Desk, a role he performed for the next three years.
Following his time at JB Were, Ben spent two years in London working as a Derivatives Analyst for Northern Trust in London.
Upon his return to Melbourne Ben worked for a boutique private bank where he advised client portfolios worth $200M and was also a member of the Investment Committee which dictated the investment policy, the desired asset allocation and the risk policy management across the $600M client base. When the firm was merged with another financial institution, Ben subsequently became a member of that Investment Committee, dictating the investment mandate of over $1BN.
Ben’s key expertise is in: Investment strategy, Equities, Derivatives, and Structured products.
We have attached a number of market commentaries from various industry participants (from the past few days) on how they view both our domestic market, the global market and global economic environment in light of current events and possible outcomes.
All articles cover various and differing issues, but it is interesting to note that all view Australia and the Australian market as being fundamentally different to the US, Europe and pretty well every other debt ridden country that faces challenges we will be able to manage.
Today’s correction highlights and supports our view, our investment philosophy, a philosophy shared by nearly all commentators in the market – stick to quality long term investments in this time of volatility.
Along with the attached articles (which might be a bit much to digest), I also wanted to briefly add some of our thoughts. A summation.
The headlines scream GFC II, but we note that there are significant differences between the environment now and the environment in 2008 when the global financial crisis (GFC) was set in train.
The major issues facing investors and corporates in 2008 were:
- The degree of corporate and investor leverage.
Companies had historically high debt levels heading into the GFC. When global banks were forced to write down poor quality assets (because of loose lending standards) and subsequently restrict lending, a number of companies were not able to re-finance which led to receiverships. In corporate Australia and in all developed markets, capital raisings have occurred over the last few years at discounts which have led to balance sheets now being in extremely good shape. Few companies would have difficulty refinancing debt over the next 6-12 months nor are substantial refinancings required.
- Australian bank balance sheets are significantly stronger and lending discipline has been more pronounced.
We have stated this many times over the last few years – Australia’s Financial System is sound and our major banks are highly profitable. This was highlighted today with National Australia Bank’s quarterly trading update and will be followed by what will likely be a record full year profit announced by Commonwealth Bank tomorrow. Additionally, dividends are being paid from operating cashflow, are growing and because of the recent fall in share prices are now at almost historically high levels (approximately 8% fully franked for the banks). As some clients will know - we increased exposure to CBA yesterday where appropriate ahead of tomorrow’s result.
Investors should not view the current environment as a precursor to a renewed GFC. The current issues are largely about confidence and growth expectations. While these are obviously important, without the underlying structural corporate issues which existed in 2008, the repercussions or flow-on effect should not be as severe.
Quality companies provide the best protection. We have spent considerable time over the last two years ensuring that clients hold only high quality companies, such as the major banks, big diversified miners such as BHP and RIO Tinto, Woolworths and Wesfarmers etc. These are companies that are all profitable, all paying growing dividends and will get through uncertain times.
As always, please do not hesitate to contact us if you would like to discuss your portfolio and any action required.
due to size restrictions, a condensed version is attached. the complete Perennial article can be requested via email.