Greetings,
With year end behind us, there is an opportunity to reflect on the previous year and look at the likely changes in the business environment and how best to position portfolios to benefit from this.
Australian equities versus international equities
While traditionally Australian investors have held a significant amount of their equity portfolios domestically, the reality is that over the last five years, the international market, and in particular the US, has substantially outperformed Australia.
Australia achieved 3.7% annualised growth, plus a 4% dividend, making a 7.7% return, plus another 1% in franking credits, making 8.7% in aggregate.
By contrast, global markets achieved a 10% return, plus a 1.7% dividend, making 11.7% in aggregate.
Changes in the Australian tax system recently announced in the May Budget would exacerbate this situation.
So increasing Australian shares will be utilised for their dividends and franking credits as opposed to their potential capital growth.
It would also be unlikely that growth-orientated companies will list on the Australian stock market.
As you can see in the last 5 years between there has been quite a difference in the relative share prices of the two indexes.
Australian and Global Shares
Source: Bloomberg, AMP
Public versus private markets
Another major trend over the last five years has been the propensity for companies to stay private and possibly sell part or all of their holdings to private equity, and to raise private debt rather than in the public markets. Increasingly, asset allocations are including a certain component for private equity and private debt, which have the advantages of not being impacted as greatly by market events on stock markets, but are subject to valuations which can be opaque and not as regular.
The ASX is, in fact, shrinking now and, with the high amount of money still coming in via superannuation contributions, there are fewer companies to invest in, which is bidding up their price, particularly where there are higher levels of dividends.
Active versus passive funds management
There has been real growth in passive funds management, both listed and unlisted, over the last five years. This is particularly relevant for markets that are very mature, and it is unlikely that active management would produce a superior return over the longer term. We tend to use active managers for the small company sector and where there is limited research. Effectively, you are trying to invest in fund managers who are at their best, which may only be for five to 10 years, and then keep the rest of your funds in passive management, where you are at least achieving index returns and the general trend of market growth.
Australian ETF industry Funds Under Management Growth
Sources: Betashares Australian ETF Reviews for 2023, 2024 and 2025
Accumulation versus Pension in Superannuation
We have now reached a tipping point where of the $4.5 trillion in Super, $1.5 trillion (a third) is now held by people entitled to draw down on their super being over 60 years of age.
This fundamentally changes the asset allocation and risk profile for those seeking an income stream for life.
Total APRA-regulated super member benefits by phase and sector
Source: APRA fund-level statistics June 2021
Applied AI
Australia has always been a very quick adopter of technology, and we are now seeing the rapid application of AI both personally and in business. There is clearly a risk that, without proper guardrails, this can become completely out of control, including the loss of privacy. There are also issues of employment for the community as AI replaces entry-level jobs.
We have been through this before with the growth of computer usage, and there will need to be several years of this settling down, including choosing the winners and losers from an investment point of view.
The growth of data centres has been prolific, as clearly you need a lot of cloud computing to manage this level of data, and this has proved to be a good investment at this stage.
Internally, while we use AI to improve our systems and processes, we have no intention of it replacing the important advice role with clients.
Full year results
Next week is the start of the annual reporting season for Australian companies, which lasts through August, with expectations that companies will increasingly pay a higher level of dividends rather than seek capital growth to maximise shareholder returns, given the changes now in economic policy.
Importantly, we will also get some guidance from companies in their outlook statements as to the way they see the economy tracking. The lack of productivity per capita is clear to all, and the question becomes whether we are prepared to make some unpopular decisions to get the economy competitive again with international alternatives.
Economy
The economy appears to be meandering along, and we are certainly in a recession per capita and have been for most of the last five years. Without strong migration, which we have experienced post-COVID, we would definitely be in a significant recession now. At this stage, there does not appear to be a great appetite for change, and I would think that interest rate policy will stay fairly stagnant for the foreseeable future.
Australia and US Productivity
Source: IFM Investors, Australian Bureau of Statistics, US Bureau of Labor Statistics
Australian Inflation
The inflation number released today were lower than expected which means it is most unlikely now that interest rates will rise and hopefully this is the peak of the interest rate cycle. Headline inflation slowed to 0.6 percent for the quarter, which is beginning to come back into the RBA’s long term expectations.
Australian Property
A combination of three interest rate rises in Australia and a Federal Budget, which has completely changed the economics of investing, have naturally caused a slowdown in the property market. Looking at previous slowdowns, there generally has been a peak-to-trough decline of no more than 10% over 18 months to two years, after which government policy and interest rate reductions tend to restimulate the market.
One of the unintended consequences of the recent Federal Budget has been the substantial increase in rents in a very tight market. Currently, around six million people rent in Australia, which is around a third of the adult population. While it was expected that rent would only increase by $2 a week due to the budget changes, the reality is that rents are rising rapidly, which again is exacerbating cost-of-living problems.
Ultimately, the two levers that the government could use would be to allow a level of deductible debt for 1st home owners on their mortgage payments and to adjust capital gains tax from 10% to 15%, which will bring us more in line with OECD averages of 19.2%. The issues of supply remain unresolved and, unless we can build as many properties as we have new migrants, the situation will just exacerbate.
Over the last 3 months average rents in Sydney have increased from $875 to $900pw
Advertised Weekly Rents: Australian vs Sydney
Source: Rent.com.au
Our news
We are having to work through changes to asset allocation for many clients, reflecting the market conditions I have covered in this newsletter. That does mean additional meetings with clients, both face-to-face and online, to ensure we are well positioned for the future.
I do want to thank you for your continuing support and the significant number of referrals we have received over the last 12 months from existing clients.
Sincerely,
Tony and Fiona
Please note this newsletter is of a general nature only. Click to our websiteABN 42 060 673 814 • AFSL No. 407238
