By Liz Maroney, Westlawn Wealth Adviser 7 July 2014
The last 12 months have produced solid investment returns, particularly for many share investors. This was despite a range of challenges and crises, both economic and geopolitical, which unsettled financial markets.
Here, MLC’s Head of Portfolio Specialists Group, Brian Parker CFA, takes a look back at Australian and international investment markets over the last 12 months and explains how MLC is preparing clients’ portfolios for any future uncertainty.
Central bank policy drives market developments
The role of the world’s major central banks, led by the US Federal Reserve remained critical this financial year. The combination of extraordinarily low short-term interest rates and massive quantitative easing (QE) programs provided enormous support to asset prices across the world.
While the Fed has begun to taper its QE program – steadily reducing the size of its monthly bond purchases – fears that this would lead to lower share and bond prices have so far proven unfounded.
However, conditions in financial markets in some key emerging economies have been more challenging since the Fed signalled its intentions to start tapering.
World share markets delivered their second consecutive financial year of double-digit returns. And for the second year running, markets in the developed world outperformed emerging share markets.
European shares were the stand-out performer this year, followed by US shares. Japanese shares underperformed other markets this financial year, after posting a return above 50% in the 2013 financial year.
For Australian investors, share returns remained robust
For Australians with overseas investments, returns from global shares were very strong on both a hedged basis (foreign currency exposure is hedged to the Australian dollar) and an unhedged basis. However, as the table above shows, a recovery in the Australian dollar did detract from unhedged global share returns over the year.
Here in Australia, share prices enjoyed good gains, although resources significantly underperformed other sectors of the market due to concerns about the impact of slower growth in China. In an environment of very low interest rates, companies that investors viewed as offering sustainable and attractive dividends – especially in banking and telecommunications – were highly sought after.
Bond returns overseas stronger than at home
Fixed income returns improved on the 2013 financial year, as bond markets in the eurozone performed very strongly. Non-government bonds significantly outperformed government bonds.
In Australia, fixed income returns underperformed global markets over the year. In line with international developments, non-government bonds produced higher returns than government bonds. After reducing official interest rates in August 2013 to just 2.5% – the lowest in living memory – the Reserve Bank of Australia left interest rates unchanged for the rest of the financial year.
Developed economies seem to be recovering gradually
The global economy has generally improved over the course of the year, largely due to progress in the major developed economies. While extreme winter weather conditions saw the US economy stall in the first quarter of 2014, the underlying trend of US growth is still positive, particularly as fiscal policy is likely to impact growth significantly less than previously.
Economic conditions in the eurozone have improved over the last 12 months, although some more recent growth data were a little weaker than expected, and inflation readings remain worryingly low.
Fears that the eurozone could still fall into deflation prompted further monetary policy easing steps by the European Central Bank (ECB) over the year. However, the ECB is yet to embark on the large-scale QE programs seen elsewhere.
In Japan, a massive QE program has boosted share prices, lowered bond yields and contributed to bouts of weakness in the yen. Still, it isn’t clear that the policy measures adopted by the Japanese government and the Bank of Japan will prove to be the cure-all the Japanese economy needs.
Some emerging markets have suffered
Economic and financial conditions in some key emerging economies have been more challenging. Growth in China and India has slowed.
Economies such as Brazil, Indonesia and Turkey, which previously attracted strong capital inflows, have found conditions more difficult, especially since the Fed began signalling it would wind back QE.
As a result of the Fed’s tapering program, there’s less money circulating in the US economy, so less to invest overseas.
Australia needs growth outside mining sector
In Australia, overall economic growth has accelerated over the past year, but it’s clear that the best of the mining boom is largely behind us. Further, it’s not yet clear that the non-mining sectors are improving fast enough to offset a likely drag on future growth from the mining sector.
Although the volume of mining exports is likely to remain very strong, lower prices for our key resource exports (like iron ore) will adversely impact the income we receive from these. We’re also likely to see substantial falls in mining investment activity in coming years as construction projects reach completion.
Improvements in both the Australian and world economies and very solid investment returns are welcome news for investors. However, many important issues remain unresolved and the investment environment uncertain.
The actions of policy makers – either in withdrawing economic stimulus measures too quickly or leaving them in place for too long – are a key source of uncertainty for both the world economy and financial markets, despite the best efforts of central bankers to give guidance on future policy developments.
Geopolitical risks have heightened over the last year: in addition to the ongoing conflict in Syria, developments in the Ukraine and recent events in Iraq continue to cause concern. Iraq, keeper of the world’s fifth-largest oil reserves, is teetering on the brink of collapse, and oil prices have jumped to their highest levels for around nine months.
How to deal with uncertainty
MLC remains focused on rigorously managing risk and finding even better ways to insulate investors against adverse events.
With future developments in the global environment so uncertain, it’s more important than ever that clients’ investment portfolios have resilience in a wide range of conditions. MLC’s market-leading investment approach means constantly considering how a wide range of potential market scenarios – both good and bad – could affect portfolios. Portfolios can then be adjusted to manage possible risks and take advantage of potential return opportunities.
This approach means MLC’s portfolios are widely diversified, risk-aware and well positioned for many market environments.
This information has been provided by MLC Investments Limited (ABN 30 002 641 661) and MLC Limited (ABN 90 000 000 402) members of the National Australia Bank group of companies, 105–153 Miller Street, North Sydney 2060.
This communication contains general information and may constitute general advice. Any advice in this communication has been prepared without taking account of individual objectives, financial situation or needs. It should not be relied upon as a substitute for financial or other specialist advice.
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Past performance is not a reliable indicator of future performance. The value of an investment may rise or fall with the changes in the market. Please note that all performance reported is before management fees and taxes, unless otherwise stated.