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Interesting Insights from our Financial Planning Partner

midcapvssmallcap-png-scaled5001The search for ‘Real’ returns

With many Governments around the world giving a clear signal that interest rates will stay at historic lows for the foreseeable future, investors are being forced to take on more risks to generate some returns. With domestic term deposits providing 7% p.a. or better about three years ago, investors were willing to stay on the sidelines and play the much safer path to gain some returns. After several rate cuts last year, even Australian investors are finding that current yield on term deposits are inadequate, especially after factoring in inflation and tax. The pursuit of yield to generate further returns above cash rates have led to the push towards high quality shares with strong and sustainable dividends. More recently however, as high quality shares have made their move upwards, smaller companies have started to gain ground as well. This is not just a domestic phenomenon but, in fact, a world wide even that started approximately three years ago. Our market has recently joined this party.

Our View

The initial ‘safe-haven’ trade and continuous search for yield has made some investments in the Treasury and Government bond sector look less attractive as they have been in the past. For the moment though, the party continues. No one knows when the party will end. The biggest clue is likely to come from a move in US long term bonds. At the moment, the downtrend continues but when this reverses, it could set the stage for global re-pricing of assets as the US Treasuries is seen as the ‘risk-free’ assest of choice. When this happens, we could see Australian Government bond yields spike upwards as well, affecting equity valuations. This upward reversal in Treasury yields should also coincide with the expectation that inflation is about to head higher.

For the time being, while many developed economies are still trying to recover from recession or the anaemic growth they are experiencing, we are unlikely to experience a sharp rise in inflation and long dated Government bonds and Treasuries. Governments continue to support the continuous purchase of Treasuries to support growth. Until there is an end in sight, the yield theme and the bullishness may continue.

Until approximately six months ago, we have experienced ongoing sober attitudes towards financial markets. This sort of attitude often means that asset prices have not been inflated. Recently, we have observed that while investors are still ‘theoretically’ cautious, they are becoming ‘practically’ bullish. It is becoming more important for investors to make a well thought-out and meausured decision when investing in equities. Quality and valuation still matters in whatever type of market we are in.