Returns on cash and short-term fixed interest are below inflation even though market expectations of inflation over the next ten years are low (2.37% p.a. in the USA). Negative real returns on cash and fixed
interest persist due to a global excess of savings seeking low volatility assets, exacerbated by the actions of central banks buying large quantities of government bonds. A significant portfolio weighting to cash and
fixed interest will therefore make it more difficult to achieve a positive real return on a portfolio for some years to come.
Equity markets continue to be at or near record-high levels. This may dissuade some investors from allocating to equities. It shouldn’t. Overall, investment in equities is expected to produce positive real
total returns over the medium to long term of five to ten years, as well as producing significantly better income returns than fixed interest or cash. Based on long-term valuation analysis all major equity markets, including Australia, but excepting India and China, are currently priced fairly or slightly cheaply relative to bonds.
In Australia, the slow rollout of vaccines and an ineptly managed quarantine program has slowed the recovery until well into 2022. There will likely be a relaxation of restrictions once 70% of the population over 16 (or 56% of the whole population) is double vaccinated. This is likely to happen by December and may well be a mistake. Settling for much less than 90% of all the population vaccinated may leave the hospital system exposed to a major surge in hospitalisations in early 2022, which may retard the hoped-for recovery.
Nonetheless, investors need to look beyond the next two years that may well be afflicted by more Covid-induced recessions. Most of the value in investments comes from beyond that period. There will be some short run sell offs in equity markets, perhaps falling by as much as 15%. These will pass but they may also offer the opportunity to accumulate equity or growth assets at better prices.
Therefore, investors should:
o Maximise the asset allocation to equities subject to meeting the perceived need for a reduction in the shorter run volatility of portfolio returns (achieved by holding more cash and/or fixed interest at a cost of accepting a negative real return).
o Maintain the portfolio allocation to equities to at least 100% of the neutral or benchmark or long-term strategic weight for the relevant risk profile within the framework that applies to the portfolio.
o Consider giving more emphasis to international over Australian equities because they are more diversified and have greater access to companies with sustainable long-term growth of revenue and earnings than are available in the Australian equity market which also has a greater concentration of risk and dependence on the Chinese economy
o Carefully and selectively manage investment in equities, due to the wide dispersion between winners and losers that is expected in the new environment.
Extracted from Purvis Investment Market Conditions Report – 1 September 2021. This information is general advice only and does not take into account your personal circumstances, goals and objectives. Therefore, you should consider its appropriateness for your circumstances before acting on this information.
