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As I See It: February 2023

Greetings and Happy New Year
Global share markets had one of the best starts to the calendar year on record.  To some extent this reflects a level of relief that interest rates around the world are close to peaking.  Coupled with the reopening of China’s international travel after 3 years of effective isolation due to a Zero Covid policy, which eventually had to be reversed once cases became too prevalent. Markets tend to re-rate quickly based on an assessment of future interest rates with a growing level of commentators predicting rate decreases in Australia later this calendar year.

Graph:  Australian and Global Markets 
Source:  Bloomberg, AMP

Today’s retail sales figures were much weaker than expected and it is becoming clear that discretionary spending is now slowing rapidly.  The effect of this is to make future rate rises less likely or at least to cap out at a lower terminal rate.  In fact, the bond market is now expecting rates to fall later this calendar year. Equity markets are very heavily correlated to future interest rate movements as company valuations are calculated by discounting future profits by a discount rate linked to the prevailing market interest rate and outside of stock specific announcements. This is one of the biggest reasons for stock market movements.
Each new year I try to evaluate positive and negative influences that will affect markets and factor this into my thinking.  Naturally there is good and bad, and it require professional judgement and experience to weigh up the likely effect on markets. Taking a 5-year view is far more helpful as general momentum will move markets 5% each way regularly within a year.
While the value of shares does move around, the actual dividends for the ASX200 have remained remarkably constant over the last 20 years as has rent from property. It is the actual sustainable income from investments that we should remain focused on when considering how investments are performing. That said, perhaps counter intuitively, the Australian equity market is now only 2% below its all -time highs and CBA has just reached a new high of $110.
POSITIVES 1.  Effects of Covid now factored into markets With China now being the last of the major economies to open up and effective vaccines allowing most western economies to operate normally, the see saw effect of adjusting Government policies to try and navigate a once in a 100-year event should now abate.

My expectation is that we will now revert to more normal cycles where interest rates rise when economies and equity markets are strong and fall to stimulate markets and downturns, which are a function of a normal healthy market environment. This is easier to predict and plan for and should lead to a lower level of negative volatility and much smaller movements on interest rates in either direction.

 2.  The Growth of Technology 
One of the more noticeable outcomes out of the covid lockdown has been the increased uptake in technology accepted by the wider population. Utilizing services like ZOOM and DocuSign is improving the efficiency of business. The advent of artificial technology exemplified by ChatGPT, which is an enabler of automated responses to common questions, will again provide consumers with a vast array of information at their fingertips.

The acceptance as second nature, the use of Google maps for planning trips and accessing time critical information at the click of a button, wherever there is internet access around the globe, shows just how far we have come as a community to eliminating time consuming activities from our day. This translates into more efficient businesses doing more worthwhile things to improve consumers quality of life. 

3.  Stalemate in Ukraine? The unprovoked attack on Ukraine nearly 12 months ago leading to the biggest war in Europe wince WW2 led to substantial increase in energy and costs which fed into inflation and hence interest rate rises. With additional support and greater resolve coming from the US and Western Europe it does look like Ukraine can defend itself and will set a line in the sand for other potential global conflicts at least in the short term. At this stage the cost of gas is falling rapidly and together with the forced introduction of new cleaner sources of energy the overall outcome should be deflationary with better social outcomes. 

Graph:  European Gas Prices Falling
Source:  Refinitiv, FT

4.  Net Migration into Australia. After 3 years of an effective block on both temporary and permanent migration due to covid leading to a net decline in our country’s population for the first time since Federation, the floodgates are predictably opening quickly. The Federal Government has increased its quota for annual migration to 195k from 130k (please fact check – correct, see below). There are around 500,000 short term Visas at a backlog still being processed including education related students. The net effect of this should be to stimulate demand in inner city housing and reduce the bottlenecks in entry level casual employment. This would be a positive for property valuations and has been a long-term feature of the Australian experience, with residential property worth close to $10T and by far the largest asset class in the country, with Australian Equities worth around $2.5T. 

Graph:  Overseas Net Migration to Australia
Source:  ABS

5.  Mean Reversion Historically after a poor year such as 2022 markets improve. It is very rare to have two consecutive poor years (Vanguard long term equity table for graph)


1.  Mortgage Costs Substantially Higher There is approx. $370 billion in mortgages coming off fixed rates in Australian over the next 12 months that will move to variable at a much higher rate. This clearly reduces discretionary spending as funds are redirected into meeting higher mortgage payments. It also makes active leveraged investments into shares and property less attractive due to a higher cost of borrowing; APRA have already signaled that they are prepared to relax banking regulatory standards should the demand for new mortgages continue to decline.

Graph:  Household Interest Payments Relative to Disposable Income
Source:  ABS, AMP

2.  Redundancies in Tech and Finance
Several larger tech companies have already laid off around 6% of their workforce (Microsoft and Amazon have laid off 28,000 between them) with the larger financial institutions doing the same (Goldman Sachs, Morgan Stanley et al). Larger companies grade staff at annual reviews and in tougher markets tend to release the bottom tier of their workforce, which is not good for those effected. Conversely this does increase profits and generally leads to the company’s share price going up which is exactly what happened in the last few weeks.

Graph:  Largest Tech Redundancies Since 2020
Source:  Statista

3.  The Black Swan Events

A catch-all negative for a rare event that can come out of the blue and impact on all investment decisions of which covid is an obvious recent example. That said after the last few years it may be a while before we have another major event based on historical, averages.
Over the next few weeks, we will get the interim reporting season in Australia which will give us a better sense around future outlook statements. Historical data indicates that markets are up 81% of the time and for long term investors, it is prudent to settle on a risk profile with a well-diversified portfolio and a good margin of safety and allow market dynamics to work themselves out. In the meantime, we regularly meet with the leading fund managers and together with the research houses seek to select suitable managers to execute your requirements.
We are all back at our desks and starting our mid-year client review programs including some improved reporting systems via our app at virtueandpartners.com.au.
With our best wishes
Tony and Fiona

Posted by Dr Tony Virtue, Principal


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