Don’t fight the Fed… or the ECB or RBA

Key points

  • The ECB and the Fed now clearly look to be heading towards monetary easing, probably from July.
  • We expect two rate cuts this year from the Fed.
  • The shift back towards monetary easing by global central banks against a backdrop of low inflation adds to confidence that global growth will pick up again over the next six months or so and this will all support share markets on a six to 12-month horizon.
  • We still see the RBA easing more than the Fed given the weaker state of the Australian economy and so, on balance, continue to see the $A falling to around $US0.65 by year end.

Introduction

This decade has now seen three global growth scares – around 2011-12, 2015-16 and now since last year. Each have been associated with softening business conditions indicators (or PMIs) as indicated in the next chart – see the circled areas.

Source: Bloomberg, AMP Capital
Source: Bloomberg, AMP Capital

And each have been associated with roughly 20% falls in share markets.

Source: Bloomberg, AMP Capital
Source: Bloomberg, AMP Capital

All have seen central banks shift towards easing to varying degrees. And in the first two this saw growth indicators pick up again and share markets rebound and clearly move on to new highs. We now seem to be seeing a re-run – at least with respect to central banks.

Central banks go from tightening to neutral to easing

It had looked like a shift from a tightening bias to a neutral/slight easing bias – the US Federal Reserve’s “patient” “pause” and end to quantitative tightening and the European Central Bank’s new round of cheap bank financing (what they call TLTRO) and pushing out its guidance on how long it won’t be raising interest rates for – would do it for the Fed and the ECB this time.

But then the trade war resumed in May adding to a new round of fears about global growth and inflation. And so the ECB and Fed look to be going beyond neutral and back to “whatever it takes”, joining central banks in China, India, Australia, New Zealand and other countries in easing:

  • ECB President Mario Draghi has indicated this week that “in the absence of improvement…additional stimulus will be required” and that it “will use all the flexibility within our mandate to fulfil our mandate”. Further ECB easing could include more rate cuts (taking them further into negative territory) and a return to quantitative easing. ECB easing in July or September is looking very likely.
  • The US Federal Reserve at its June meeting has clearly shifted in a very dovish direction strongly hinting at interest rate cuts ahead. It downgraded its economic activity assessment from “solid” to “moderate”, it noted falling inflation expectations, it dropped the reference to being “patient” in raising rates, it noted that uncertainties have risen, it lowered its inflation forecasts to below the 2% target and it said it will “closely monitor” the economy, which is often code for moving to easing. While its dot plot of Fed officials’ interest rate expectations still sees rates on hold this year, it’s now line ball with 8 out of 17 officials now seeing a cut of which 7 see two cuts and many of those who have rates on hold see an increased case for a cut and it only requires one of those to shift for the dot plot to move to a cut this year. What’s more, the dot plot now sees a cut next year and it has lowered the long run rate to 2.5%. The dot plot is well down from a year ago when three rate hikes were indicated for this year and one for next year. Overall, absent a clear move towards resolution of trade issues and much better data the Fed looks on track for a cut in July and we continue to see two Fed rate cuts this year.
Source: US Federal Reserve, Bloomberg, AMP Capital
Source: US Federal Reserve, Bloomberg, AMP Capital

The shift towards monetary easing by the Fed and ECB risks ramping up currency wars again – at least in the minds of commentators – but as we have seen in the past this is just a means of spreading easing globally. And many central banks are already easing anyway.

This is of relevance to the Reserve Bank of Australia, which would prefer to see a lower Australian dollar. The Fed now moving towards easing does make the RBA’s job a little bit harder on this front. However, we still see the RBA easing more than the Fed as the Australian economy is weaker than the US economy and has much higher labour market underutilisation than the US (13.7% of the workforce in Australia versus 7.1% in the US). So, we still see the Australian dollar heading down to around $US0.65 by year end. But Fed easing which will weigh on the $US generally is one reason why the $A is unlikely to crash to past lows.

Presidents Trump and Xi to meet

In the meantime, Presidents Trump and Xi will meet at the G20 meeting in Japan next week. This could lead to a delay in the next round of tariff hikes on China – on the roughly $US300bn of remaining Chinese imports. Ultimately, I expect a deal to resolve the trade dispute because of the threat to growth in both countries (and the risks this poses to Trump’s 2020 re-election prospects). But given the false starts so far it’s not clear this round of meetings will do it just yet.

But it looks like we will get some combination of a trade deal/easier monetary policy or no trade deal and even easier monetary policy.

Implications for investors

The risks are higher this time around given the trade war mess and with the US yield curve inverting – although it does give false signals, has long lags and may be distorted by the threat of more quantitative easing, recently it may more reflect a plunge in inflation expectations as opposed to growth expectations and the normal excesses that precede US recessions aren’t present to the same degree now.

And there will be bumps along the way, i.e.) shares could still go down in response to weak economic data and trade upsets before they go up and we are in a seasonally weak part of the year.

However, for investors it’s always worth remembering the old line “don’t fight the Fed”…or the ECB or RBA, etc. This is because low rates make shares cheaper and can help boost earnings.

While there is scepticism that central banks with the ultra low/negative rates and QE will do the trick, an investor would have made a huge mistake over the last decade betting against them!

So while the risks are higher this time around, my inclination is still to see the current period as just another global growth scare like those in 2011-12 and 2015-16 which will give way to somewhat stronger growth globally and higher share markets on a six to 12 month view.

SOURCEhttps://www.ampcapital.com/au/en/insights-hub/articles/2019/june/dont-fight-the-fed-or-the-ecb-or-rba

Australian growth will be constrained but here’s nine reasons why recession is unlikely

Key points

  • Australian growth is likely to be weak over the next year or so and this will prompt further monetary easing and fiscal stimulus.
  • However, several positives suggest recession is unlikely: the current account deficit has collapsed; the $A helps stabilise the economy; the drag from falling mining investment is over; there is scope for extra fiscal stimulus; infrastructure spending is booming; there has been no sign of panic property selling; economic policy remains sensible; population growth remains strong; and the RBA can still do more.

Introduction

For some time our view has been a less upbeat on the Australian economy than the consensus and notably the RBA. The reasons were simple. The housing cycle has turned down and this is weighing on consumer spending. And this is at a time when the risks to the global economy have increased as the trade war threat has ramped up again. All at a time when high levels of underemployment are keeping a lid on wages growth and, along with technology and competition, inflation. Consequently we have been expecting rate cuts this year which have now commenced and have further to go. We see a strong case for more fiscal stimulus to help the RBA in boosting growth and see an increasing risk that the RBA may have to use some form of quantitative easing to achieve its inflation target.

But the gloom around the Australian economy seems to have gone over the top lately with all the talk around rate cuts adding to the sense of malaise and more and more talk about a recession being inevitable. Surely it can’t be that bad! And why despite all this doom and gloom is the share market at an 11-year high, up 16% year to date and just 4% shy of its 2007 resources-boom high. There must be some positives around. And there are! So, to inject some balance into the debate around Australia here is a list of positives. They are partly why we don’t see Australia as being about to plunge into recession.

1. Australia’s current accounts deficit has collapsed

As a share of GDP, it’s the lowest since the 1970s as high iron ore prices have combined with solid growth in export volumes and pushed the trade balance into a record surplus. The current account deficit is the gap between what we spend as a nation and what we earn – so its near disappearance means we are less dependent on foreign capital. This is a big one given that a big scare of the 1980s in Australia was that the large current account deficit and rising foreign debt would lead to a major crisis, collapse the economy and require an IMF bailout. Like with most doomster stories on Australia, we are still waiting!

Source: ABS, AMP Capital
Source: ABS, AMP Capital

2. The Australian dollar helps stabilise the economy
The $A is down 38% from its 2011 high and is likely to fall further and this provides a shock absorber for the Australian economy as a lower $A makes Australian businesses that compete internationally more competitive – eg higher education, tourism, mining, manufacturing, agriculture.

3. The drag from falling mining investment is over
The big drag on growth (which was up to around 2 percentage points at one stage) as mining investment fell back to more normal levels as a share of GDP is likely over and mining investment plans look to be moving up again.

4. There is scope for extra fiscal stimulus
The Federal budget is nearly back in surplus and while we have had a long run of deficits our public finances are in good shape compared to the US, Europe and Japan.

Source: IMF, AMP Capital
Source: IMF, AMP Capital

Some fiscal stimulus is already on the way with tax refunds for low and middle income earners. While the Government is focussed on achieving a surplus it seems to be recognising the case to do more to help the economy with talk of bringing forward infrastructure spending.

5. Infrastructure spending is booming
Infrastructure spending is booming. While growth in public capex may peak this year, NSW has flagged another round of asset sales to fund new infrastructure spending and suggestions to bring back Joe Hockey’s asset recycling program (that saw the Federal Government provide a financial incentive to states to sell existing assets and use the proceeds to plough back into new infrastructure spending).

6. There is no sign of panic property selling
Despite the falls in property prices we have seen no sign of a “crash”. Non-performing loans are still relatively low even in Perth where prices are down nearly 20%. There has been no significant panic selling. The switch for many from interest only loans to principle and interest has not seen mass defaults or mass selling. And the combination of the removal of the threat to negative gearing and the capital gains tax discount along with rate cuts has seen buyer interest return.

7. The political environment remains sensible
While the Federal election has been analysed to death, the bottom line is that Australians as a whole were not prepared to support a populist agenda of higher taxes on the “top end of town”, substantially increased public spending and redistribution. Just like they weren’t prepared to support a more right-wing free market agenda in 1993. Australia is not immune to the populism seemingly sweeping the world, but it seems to be limited to a relatively minor influence. Maybe it’s the moderate climate, maybe it’s the lack of extreme inequality, maybe it’s the compulsory voting system that keeps motivated extremists in their place in favour of a sensible centre.

Whatever it is – economic policy making in Australia could always be better (economists would love to see a greater focus on economic reform) but it’s generally pretty sensible.

8. Population growth remains strong
Australia’s population growth at around 1.5% pa is strong and supported by a high fertility rate and high levels of immigration. While it’s far from a world beater – with the top 10 countries by population growth seeing growth of between 3 to 5% pa – it is at the high end of comparable countries and roughly double the OECD average and of the US and UK and is faster than India.

Of course, strong population growth is not without issues –around integration, congestion, the environment, adequate housing and infrastructure. And ultimately in terms of living standards it is economic growth per person (or per capita) that matters not total growth and lately per capita GDP has gone backwards. But solid population growth also has significant benefits in terms of supporting demand growth in the economy, preventing lingering oversupply (as today’s excess – say Sydney apartments – can quickly turn into tomorrow’s shortfall) and keeping the economy dynamic. It also means that while Australia’s population is ageing, the problem is far less challenging than in most advanced countries as by comparison Australia with a median age of 37 is relatively young and it has a relatively low old age dependency ratio.

9. The RBA can still do more
While the official cash rate is at a record low of 1.25%, it can still go lower and we think it will, whereas in Europe and Japan rates are already at zero (or just below). Our view remains that the RBA will cut the cash rate to 0.5% beyond which it will probably conclude it’s of little benefit as it will make it harder for banks to pass on rate cuts as they will have more bank deposits at zero and so cutting mortgage rates would mean reduced profit margins and probably less lending.

But the RBA can still do quantitative easing – if needed. This basically involves seeking to boost the economy by injecting more cash into the economy using printed money. The lesson from the US, Europe and Japan was to go early and go hard. Japan and then Europe left it a bit too late, but the US went early and has achieved more success with QE.

QE as practiced there – using printed money to buy assets on the hope that banks would use the cash to lend, people would borrow and investors would help the economy by taking on more risky investments – may help. But it may not be the most efficient approach (as much of the cash just ended up in bank reserves) or the most equitable (to the extent it boosted prices for shares and other risky assets that are disproportionately held by high income/wealthier people).

A better option in terms of QE may be to use printed money to finance fiscal stimulus – maybe by directly buying bonds issued by the government. This is a radical step. The Austrian economists would scream hyperinflation! But they did with QE in the US a decade ago too and we are still waiting. In any case the problem is a lack of inflation and the risk of deflation. But it would work in terms of boosting spending in a fair way. It could involve either government spending on things like infrastructure (which both adds to demand and the economy’s productive potential) or tax cuts or “cheques in the mail” with use by dates.

But bear in mind Australia is a long way from needing to do this – we are not in recession so it’s really a debate about what can be done ahead of time which is actually healthy. Better this than wait for a crisis to hit then scramble on what to do.

Australian shares – what’s going on?
Which brings us to the strong Australian share market. Much of the recent surge in the Australian share market reflects strong gains in mining stocks on the back of the strong iron ore price, strong demand for high yielding stocks as bond yields have plunged and the post-election bounce. And if global shares have a further setback on the back of trade fears then Australian shares will be impacted too. But it’s also worth noting that the Australian share price index has underperformed global share markets for almost a decade now reflecting tighter monetary policy from October 2009, the surge in the $A into 2011, the end of the commodity price boom, worries about a property crash and a mean reversion after Australia’s 2000 to 2009 outperformance. Many of these factors have run their course, have reversed or have been factored in by the share market so maybe the decade-long underperformance by Australian shares is coming close to an end.

Source: Thomson Reuters, AMP Capital
Source: Thomson Reuters, AMP Capital

Concluding comment
The point about all this is that while Australian growth may be going through a rough patch and this could go on for a while yet, there is a bunch of things going well for the Australian economy and there is plenty of scope for more monetary and fiscal stimulus. So – barring a significant global downturn threatening our export earnings big time – recession is unlikely, and it would be wrong to get too gloomy on Australia.

SOURCEhttps://www.ampcapital.com/au/en/insights-hub/articles/2019/june/australian-growth-will-be-constrained-but-heres-nine-reasons-why-recession-is-unlikely

The $A still has more downside, but a lot of the weakness is behind us

Key points

  • The Australian dollar likely faces more downside as Australian growth is weaker than US growth and the RBA is likely to cut more than the Fed. However, downside may be limited to around $US0.65 given that the $A has already had a large fall, short positions in the $A are large, the iron ore price remains high (for now) and the Fed is also heading towards rate cuts.
  • Given the downside risks for the $A and that being short the $A is a good hedge against threats to the global outlook it still makes sense for Australian investors to maintain a decent exposure to foreign currency via un-hedged global investments.

Introduction

While some have expressed surprise at the recent resilience in the value of the Australian dollar around the $US0.69-0.70 level despite weak Australian growth and Reserve Bank rate cuts, from a big picture sense it has already fallen a long way. It’s down 37% from a multi-decade high of $US1.10 in 2011 and it’s down 15% from a high in January last year of $US0.81. So, having met our long-held expectation for a fall to around or just below $US0.70 and given its recent resilience now is an appropriate time to take a look at its outlook.

The $A is slightly undervalued long term

The first thing to note is that from a very long-term perspective the Australian dollar is around or just below fair value. This contrasts to the situation back in 2011 when it was well above long-term fair value. The best guide to this is what is called purchasing power parity (PPP) according to which exchange rates should equilibrate the price of a basket of goods and services across countries – see the next chart.

Source: RBA, ABS, AMP Capital
Source: RBA, ABS, AMP Capital

If over time Australian inflation and costs rise relative to the US, then the value of the $A should fall to maintain its real purchasing power and competitiveness. And vice versa if Australian inflation falls relative to the US. Consistent with this the Australian dollar tends to move in line with relative price differentials – or its purchasing power parity implied level – over the long term. And right now, it’s around or just below fair value.

But as can be seen in the last chart, it rarely spends much time at the purchasing power parity level. Cyclical swings in the $A are largely driven by swings in the prices of Australia’s key commodity exports and relative interest rates, such that a fall in Australian rates relative to US rates makes it more attractive to park money in the US and hence pushes the $A down. “Investor” sentiment and positioning also impacts – such that if the $A is over-loved with a lot of long positions then it becomes vulnerable to a fall and vice versa if it’s under-loved.

The negatives for the $A…

For some time, our view has been that the $A would fall into the high $US0.60s and this has happened. But notwithstanding this and that the $A has already fallen a long way from its 2011 high, it could still face a bit more downside over the next six to 12 months. The main reason is that Australian growth is weaker than US growth and spare capacity is much higher in Australia. For example, labour market underutilisation is 13.7% in Australia versus just 7.1% in the US, growth in Australia is running at 1.8% year on year compared to 3.2% in the US and the drag on growth from the housing downturn is likely to keep growth relatively weak in Australia for the next year or so.

Source: Bloomberg, AMP Capital
Source: Bloomberg, AMP Capital

This will keep inflation lower in Australia than in the US and so we see the RBA cutting rates more than the Fed. And the RBA is much closer to having to do quantitative easing or some variant of it (ie using printed money to boost growth) than the Fed. This will continue to make it relatively less attractive to park money in Australia. As can be seen in the next chart, periods of a low and falling interest rate differential between Australia and the US usually see a low and falling $A.

Source: Bloomberg, AMP Capital
Source: Bloomberg, AMP Capital

So this all points to more downside for the Australian dollar.

…and the positives

Against this there are a bunch of forces acting to support the $A, and this has been evident in its relative resilience despite bad news in recent weeks. Firstly, global sentiment towards the Australian dollar has been negative for some time and this has been reflected in short or underweight positions in the $A being at extreme levels – see the next chart. In other words, many of those who want to sell the $A have already done so and this leaves it vulnerable to a rally if there is any good news.

Source: Bloomberg, AMP Capital
Source: Bloomberg, AMP Capital

Secondly, there has been good news with the iron ore price pushing above $US100 a tonne and this combined with solid growth in export volumes has pushed the trade balance into a record surplus which has shrunk the current account deficit as a share of GDP to its lowest since the 1970s. Of course, the iron ore price will likely fall back somewhat when Vale gets production back to normal after its dam disaster, but Chinese economic stimulus may help keep it and other commodity prices supported. The smaller current account surplus means Australia has become less dependent on foreign capital inflows.

Source: ABS, AMP Capital
Source: ABS, AMP Capital

Finally, in response to the threat to growth from President Trump’s trade wars, mixed economic data and weak inflation, investors have moved to price in rate cuts from the Fed over the next year. And this is negative for the $US generally after a multi-year bull market since 2008.

So where to from here?

Overall, we expect that the weaker growth outlook in Australia relative to the US and the likely continuing decline in the interest rate differential versus the US will dominate and push the $A still lower. But with the $A having already had a big fall, short $A positions running high, the current account deficit having shrunk and the US dollar looking toppy we see the $A falling to around $US0.65 on a six to 12 month horizon as opposed to crashing down to say the 2001 low of $US0.48. Of course, if the global economy falls apart, causing a surge in unemployment in Australia as export demand and confidence collapses and another big leg down in house prices then all bets are off and the Aussie will fall a lot more…but that’s not our base case.

What does it mean for investors?

With the risks skewed towards more downside in the value of the $A, albeit less so than say a year ago, there are several implications for investors.

First, there remains a case – albeit not as strong as it was when the Australia dollar was much higher – to maintain a decent exposure to offshore assets that are not hedged back to Australian dollars. A decline in the value of the $A will boost the value of an investment in offshore assets denominated in foreign currency one for one. Meanwhile, the fall in Australian interest rates relative to global interest rates has reduced the incentive to hedge because when Australian rates are above global rates investors are “paid” to hedge.

Second, if the global outlook turns sour due to say Trump’s trade wars, having an exposure to foreign currency provides protection for Australian investors as the $A usually falls in response to threats to global growth. As can be seen in the next chart there is a rough positive correlation between changes in global shares in their local currency terms and the $A. Major falls in global shares associated with the emerging market/LTCM crisis in 1998, the tech wreck into 2001, the GFC, the Eurozone crises and the 2015-16 global growth scare saw sharp falls in the $A. So being short the $A and long foreign exchange provides good protection against threats to the global outlook.

Source: Bloomberg, AMP Capital
Source: Bloomberg, AMP Capital

Finally, continuing softness in the $A will be positive for Australian industry sectors that compete internationally like tourism, higher education, manufacturing, agriculture and mining and this will benefit shares exposed to these areas.

SOURCEhttps://www.ampcapital.com/au/en/insights-hub/articles/2019/june/the-a-still-has-more-downside-but-a-lot-of-the-weakness-is-behind-us

The nine most important things I have learnt about investing over the past 35 years

Key point

  • My nine most important lessons from investing over the past 35 years are that: there is always a cycle; the crowd gets it wrong at extremes; what you pay for an investment matters a lot; getting markets right is not as easy as you think; investment markets don’t learn; compound interest applied to investments is like magic; it pays to be optimistic; keep it simple; and you need to know yourself to succeed at investing.

Introduction

I have been working in and around investment markets for 35 years now. A lot has happened over that time. The 1987 crash, the recession Australia had to have, the Asian crisis, the tech boom/tech wreck, the mining boom, the Global Financial Crisis, the Eurozone crisis. Financial deregulation, financial reregulation. The end of the cold war, US domination, the rise of Asia and then China. And so on. But as someone once observed the more things change the more they stay the same. And this is particularly true in relation to investing. So, what I have done here is put some thought into the nine most important things I have learned over the past 35 years.

# 1 There is always a cycle

Droll as it sounds, the one big thing I have seen over and over in the past 35 years is that investment markets constantly go through cyclical phases of good times and bad. Some are short term, such as those that relate to the 3 to 5 year business cycle. Some are longer, such as the secular swings seen over 10 to 20 year periods in shares. Some get stuck in certain phases for long periods. Debate is endless about what drives cycles, but they continue. But all eventually contain the seeds of their own reversal. Ultimately there is no such thing as new eras, new paradigms and new normal as all things must pass. What’s more share markets often lead economic cycles, so economic data is often of no use in timing turning points in shares.

# 2 The crowd gets it wrong at extremes

What’s more is that these cycles in markets get magnified by bouts of investor irrationality that take them well away from fundamentally justified levels. This is rooted in investor psychology and flows from a range of behavioural biases investors suffer from. These include the tendency to project the current state of the world into the future, the tendency to look for evidence that confirms your views, overconfidence and a lower tolerance for losses than gains. So, while fundamentals may be at the core of cyclical swings in markets, they are often magnified by investor psychology if enough people suffer from the same irrational biases at the same time. From this it follows that what the investor crowd is doing is often not good for you to do too. We often feel safest when investing in an asset when neighbours and friends are doing the same and media commentary is reinforcing the message that it’s the right thing to do. This “safety in numbers” approach is often doomed to failure. Whether its investors piling into Japanese shares at the end of the 1980s, Asian shares into the mid 1990s, IT stocks in the late 1990s, US housing and dodgy credit in the mid 2000s or Bitcoin in 2017. The problem is that when everyone is bullish and has bought into an asset in euphoria there is no one left to buy but lots of people who can sell on bad news. So, the point of maximum opportunity is when the crowd is pessimistic, and the point of maximum risk is when the crowd is euphoric.

# 3 What you pay for an investment matters a lot

The cheaper you buy an asset the higher its prospective return. Guides to this are price to earnings ratios for share markets (the lower the better – see the next chart) and yields, ie the ratio of dividends, rents or interest payments to the value of the asset (the higher the better). Flowing from this it follows that yesterdays winners are often tomorrows losers – because they became overvalued and over loved and vice versa. But while this seems obvious, the reality is that many find it easier to buy after shares have had a strong run because confidence is high and sell when they have had a big fall because confidence is low. But the key point is that the more you pay for an asset the lower its potential return and vice versa.

Source: Global Financial Data, AMP Capital
Source: Global Financial Data, AMP Capital

# 4 Getting markets right is not as easy as you think

In hindsight it all looks easy. Looking back, it always looks obvious that a particular boom would go bust when it did. But that’s just Harry hindsight talking! Looking forward no-one has a perfect crystal ball. As JK Galbraith observed “there are two kinds of forecasters: those who don’t know, and those who don’t know they don’t know.” Usually the grander the forecast – calls for “great booms” or “great crashes ahead” – the greater the need for scepticism as such calls invariably get the timing wrong (in which case you lose before it comes right) or are dead wrong. Market prognosticators suffer from the same psychological biases as everyone else. If getting markets right were easy, then the prognosticators would be mega rich and would have stopped doing it long ago. Related to this many get it wrong by letting blind faith – “there is too much debt”, “house prices are too high and are guaranteed to crash”, “the Eurozone will break up” – get in the way of good investment decisions. They may be right one day, but an investor can lose a lot of money in the interim. The problem for ordinary investors is that it’s not getting easier as the world is getting noisier as the flow of information and opinion has turned from a trickle to a flood and the prognosticators have had to get shriller to get heard.

# 5 Investment markets don’t learn

A key lesson from the history of investment markets is that they don’t seem to learn. The same mistakes are repeated over and over as markets lurch from one extreme to another. This is even though after each bust many say it will never happen again and the regulators move in to try and make sure it doesn’t. But it does! Often just somewhere else. Sure, the details change but the pattern doesn’t. As Mark Twain is said to have said: “history doesn’t repeat, but it rhymes.” Sure, individuals learn and the bigger the blow up the longer the learning lasts. But there’s always a fresh stream of newcomers to markets and in time collective memory dims.

# 6 Compound interest is like magic

This one goes way back to my good friend Dr Don Stammer. One dollar invested in Australian cash in 1900 would today be worth $240 and if it had been invested in bonds it would be worth $950, but if it was allocated to Australian shares it would be worth $593,169. Although the average annual return on Australian shares (11.8% pa) is just double that on Australian bonds (5.9% pa) over the last 119 years, the magic of compounding higher returns leads to a substantially higher balance over long periods. Yes, there were lots of rough periods along the way for shares as highlighted by arrows on the chart, but the impact of compounding at a higher long-term return is huge over long periods of time. The same applies to other growth-related assets such as property.

Source: Global Financial Data, AMP Capital
Source: Global Financial Data, AMP Capital

# 7 It pays to be optimistic

The well-known advocate of value investing Benjamin Graham observed that “To be an investor you must be a believer in a better tomorrow.” If you don’t believe the bank will look after your deposits, that most borrowers will pay their debts, that most companies will grow their profits, that properties will earn rents, etc then you should not invest. Since 1900 the Australian share market has had a positive return in roughly eight years out of ten and for the US share market it’s roughly seven years out of 10. So getting too hung up worrying about the next two or three years in 10 that the market will fall risks missing out on the seven or eight years out of 10 when it rises.

# 8 Keep it simple stupid

Investing should be simple, but we have a knack for overcomplicating it. And it’s getting worse with more options, more information, more apps and platforms, more opportunities for gearing and more rules & regulations around investing. But when we overcomplicate investments we can’t see the wood for the trees. You spend too much time on second order issues like this share versus that share or this fund manager versus that fund manager, so you end up ignoring the key driver of your portfolio’s performance – which is its high-level asset allocation across shares, bonds, property, etc. Or you have investments you don’t understand or get too highly geared. So, it’s best to keep it simple, don’t fret the small stuff, keep the gearing manageable and don’t invest in products you don’t understand.

# 9 You need to know yourself to succeed at investing

We all suffer from the psychological weaknesses referred to earlier. But smart investors are aware of them and seek to manage them. One way to do this is to take a long-term approach to investing. But this is also about knowing what you want to do. If you want to take a day to day role in managing your investments then regular trading and/or a self managed super fund (SMSF) may work, but you need to recognise that will require a lot of effort to get right and will need a rigorous process. If you don’t have the time and would rather do other things like sailing, working at your day job, or having fun with the kids then it may be best to use managed funds. It’s also about knowing how you would react if your investment suddenly dropped 20% in value. If your reaction were to be to want to get out then you will either have to find a way to avoid that as you would just be selling low and locking in a loss or if you can’t then you may have to consider an investment strategy offering greater stability over time (which would probably mean accepting lower returns).

So what does all this mean for investors?

All of this underpins what I call the Nine Keys to Successful Investing which are:

  1. Make the most of the power of compound interest. This is one of the best ways to build wealth and this means making sure you have the right asset mix.
  2. Don’t get thrown off by the cycle. The trouble is that cycles can throw investors out of a well thought out investment strategy. But they also create opportunities.
  3. Invest for the long term. Given the difficulty in getting market and stock moves right in the short-term, for most it’s best to get a long-term plan that suits your level of wealth, age, tolerance of volatility, etc, and stick to it.
  4. Diversify. Don’t put all your eggs in one basket. But also, don’t over diversify as this will just complicate for no benefit.
  5. Turn down the noise. After having worked out a strategy thats right for you, it’s important to turn down the noise on the information flow and prognosticating babble now surrounding investment markets and stay focussed. In the digital world we now live in this is getting harder.
  6. Buy low, sell high. The cheaper you buy an asset, the higher its prospective return will likely be and vice versa.
  7. Beware the crowd at extremes. Don’t get sucked into the euphoria or doom and gloom around an asset.
  8. Focus on investments that you understand and that offer sustainable cash flow. If it looks dodgy, hard to understand or has to be based on odd valuation measures or lots of debt to stack up then it’s best to stay away.
  9. Seek advice. Given the psychological traps we are all susceptible too and the fact that investing is not easy, a good approach is to seek advice.

SOURCEhttps://www.ampcapital.com/au/en/insights-hub/articles/2019/june/the-nine-most-important-things-I-have-learnt-about-investing

Should you and your partner retire at the same time?

It’s one of those curious questions people rarely ponder before the time draws uncomfortably near: will we retire together? On the one hand, it makes sense to seize the opportunity to travel and experience this next chapter of your lives together. On the other, how can two people possibly be ready to leave the workforce at exactly the same time?

There’s more to factor into the equation than the pros and cons of only having to make lunch for one, though, and that includes possible financial losses as well as cash flow and optimal timing. Whilst a synchronized retirement might sound ideal, you’ll need to weigh up whether the sacrifices are worth it before you start planning your concurrent work farewell parties. If you’re suddenly enjoying a new project at work, is it really time to go?

Super you vs super us

“It’s important that any strategy you put in place targets your retirement goals as a couple, but your strategy will also need to conform to certain rules and requirements, based on your individual circumstances,” says Keiran McIlwain, Head of Advice and Professionalism at MLC. For instance, the super rules apply at an individual level, meaning the contribution limits are on a per-person basis as opposed to a per-couple basis, and the restrictions that apply to accessing your super are also based on your personal circumstances.

“As you approach retirement, it isn’t uncommon to think about selling down other investments such as shares or an investment property. Some of these events could also trigger capital gains tax. Also, unfortunate realities at this time of life might also mean that you receive an inheritance. If you want to invest some of these surplus funds in super, considering all the available options as a couple will help to ensure that you maximize contributions by making use of each of your contribution caps,” he says.

The perks of retiring together

For many, retirement means the opportunity to finally start ticking off some of those bucket list locations. No more amassing holiday leave or taking a personal day—you’re free of the confines of a job forever. Aside from the obvious travel perks, retirement also gives you more time to spend with your family and grandkids. Though one thing’s for sure—you’ll definitely notice how quiet and relaxing the house is when they aren’t around.

However you decide to spend your time, it’s important that you get the most out of this new chapter together, and the best way to ensure this is to plan ahead. “For most of us, the main thing standing between us and retirement is cash flow—ensuring we’ll be able to generate enough income to cover ongoing living expenses, and certain unplanned expenses, for the duration of our retirement. Whether or not this is an achievable goal will come down to early and thorough planning,” McIlwain says.

The cons of not going it alone

The obvious hurdle you’ll need to overcome if you and your partner retire together is lack of cash flow. “The thought of annual overseas holidays, your grandchild’s destination wedding in Greece, and regular golfing trips surely sounds appealing. But without any ongoing employment income to fund these expenses, and no further employer contributions into your super account, can you afford to retire together?” asks McIlwain. If it turns out that you can’t, you’d be in a much better position to realise that whilst still employed, rather than trying to re-enter the workforce after an extended hiatus.

If the plan is to rely on full or partial Age Pension to cover your expenses, it’s absolutely crucial to plan carefully. McIlwain says that is especially important if you and your partner aren’t the same age. “Then it may be the case that only one of you will be entitled to the Age Pension for a period of time. This might mean that you need to draw down greater amounts from your superannuation savings—which might be okay if you know that your savings can still go the distance. Again, this is where the benefits of financial advice come into play,” he says.

Calculate if you’re on track with your super

Lessons learnt

NSW couple Pat and Michael retired together three years ago. “The first thing we did was take a trip to Europe together, which was something we’d wanted to do for twenty years”, Pat says. “Then we caught the travel bug a bit and made a trip to The Margaret River, as well as visiting family in Geelong and Lorne not long after. We quite liked our new leisurely lifestyle, but we didn’t like what it did to our bank account.” In retrospect, Michael says that they should have spent more time with a financial adviser to better understand the ways they could have boosted their retirement savings whilst maximizing their Age Pension entitlements.

According to McIlwain, “If you haven’t both reached Age Pension age, simply considering whose super account you should contribute additional savings into can make a big difference to the elder spouse’s Age Pension entitlement. It is worth getting advice to understand what is right for you and how to maximise your retirement income.” Though Pat says she wouldn’t change the time they’ve shared together over the past few years for anything, if they could do it all over, they’d work with a financial adviser to help them plan ahead and best achieve their joint retirement goals.

Originally published on news.com.au

Disclaimer: This information does not take into account your personal financial situation or needs. You should consider whether it is appropriate for your circumstances prior to making any investment decision.

SOURCEhttps://www.mlc.com.au/personal/blog/2019/06/should_you_and_your

So how much do we really need to retire?

There’s been a lot of pretty scary “information” come out about the insane amounts of money we need to retire, so what are the facts? 

For many people, the concept of retirement shimmers like an oasis beyond the desert of day to day working life. For others it is the monster that lurks under the bed, often emerging in the wee small hours of the night, to worry them into sleeplessness. Will I have enough money to maintain my lifestyle? Will my super be enough? What age will I have to work until if it isn’t? Should I have done more planning, years ago? The good thing about monsters under the bed is that they disappear when the daylight hits. So how do we shine some daylight on the retirement monster?

Conventional wisdom tells us that it’s better to consider and plan for retirement as early as possible. However, this is rarely the reality. Life gets busy and sometimes just getting through the demands of the week, navigating work, family and other commitments, is all we can manage. So the next best thing is to have a look at your current situation, how much of your lifestyle you will want to maintain, and how you would like to construct a retirement map that best suits you.

What does your retirement look like?

Obviously the one thing we all have in common is that we want to enjoy our retirement without financial concerns about lifestyle and the future. So how do you imagine your retirement? Do you see yourself travelling? Are there hobbies you’d like to explore? Maybe spend more time visiting friends and family? Part of the problem in envisioning future retirement goals is that there abound many urban myths about how much money is actually needed to achieve them. Estimates can range into the millions. The reality of the situation is that there is no single amount that suits everyone’s idea of how retirement looks. As people’s needs and goals for enjoying their retirement vary greatly, so do their personal circumstances, resources and commitments.
A good start to overcoming retirement anxiety is to identify your personal income needs. These are your living expenses and lifestyle requirements such as housing, food, transport, clothing, health and utilities as well as entertainment, travel and leisure activities. Keiran McIlwain, Head of Advice and Professionalism at MLC, part of the NAB Group, says that many of the people he speaks with have “no idea of how much they spend on a weekly or even monthly basis. This awareness is critical to develop a realistic understanding of your current and future personal finances, and as such provides a basis for dispelling uncertainty.” Once you have a clear picture of your current situation and income goals you can begin to assess how you can maintain your lifestyle after retirement and where your needs may change in the future.

How long is a piece of string?

When it comes to the question of what the dollar amount an average Aussie would need to have to retire Keiran says, “It’s a common question but it’s important to focus on personal income needs – including lifestyle and all other expenses. Once you know what annual income you need to support your desired retirement, you can work through the finer details of how to fund this income need- which may include considering what your super balance will need to look like in lump sum terms.“
He goes on to explain, “MLC’s Wealth Behaviour Survey data for the fourth quarter of 2018 showed that the average Australian expects to need more than $1.2 million in retirement, excluding the value of their home.”

Superannuation is a primary building block for your retirement finances. As there’s no fixed amount that works for everybody, individualised advice is important to figure out a retirement plan based on your personal preferences and unique situation.

When in doubt, ask an expert

Starting a good relationship with a trusted financial adviser is a wise choice that will not only address your unique characteristics, circumstances and needs but will also support the changes that invariably come along with life. Talking to a professional, even just once a year, will also go a long way towards helping you feel more empowered and on top of things.

“Most super funds also offer tools that project superannuation outcomes based on a range of personal preferences. We always encourage customers to think of this as one piece of the puzzle that good financial advice pulls together,” says McIlwain.

See if your retirement planning is on-track and explore things you can do if it’s not.

Plan for the unexpected

As circumstances change during your lifetime, your individual requirements are going to change. Some adjustments can be anticipated, and others are more unexpected. Generally speaking, due to the decrease in work and family commitments, people often tend to downsize their living situations when they retire. Downsizing not only reduces the level of upkeep required to maintain the property, it can also provide a significant boost to your retirement funds.

Along with maximising income and managing lifestyle expenditure, a financial adviser will also provide support in negotiating the inevitable external and internal factors that occur over time. Possible external disruptions to retirement plans such as changes in government, financial and property market fluctuations interest rate adjustments and changes in super are common. Internal or personal factors that may disrupt plans, such as blending families, divorce, illness, and other significant family events can require risk mitigation strategies where necessary. Although challenging, these changes in circumstances can be navigated with ongoing financial support and advice at hand.

To get some peace of mind – and clear a little monster-shaped room from under the bed – the best strategy begins with taking a realistic look at your current and future lifestyle requirements and continues with putting in place a retirement plan that caters to your ongoing individual goals. Engaging reliable financial advice and regular revision of your plan also ensures that you remain on track despite disruptions, so you can wholeheartedly look forward to your retirement.

See if your retirement planning is on-track and explore things you can do if it’s not here.

Originally published on news.com.au

Disclaimer: This information does not take into account your personal financial situation or needs. You should consider whether it is appropriate for your circumstances prior to making any investment decision.

SOURCEhttps://www.mlc.com.au/personal/blog/2019/06/so_how_much_do_were

RBA cuts rates to a new record low

Key points

  • The RBA’s latest rate cut is aimed at heading off a further slowing in growth which would threaten higher unemployment and lower for longer inflation.
  • Cutting the inflation target would be a big mistake.
  • More rate cuts are likely to be needed ultimately taking the cash rate to a low of 0.5% next year. Ideally this will be combined with more fiscal stimulus.
  • For investors it means low interest rates for even longer.

Introduction

As had become widely expected in the past two weeks the Reserve Bank of Australia has cut the official cash rate by 0.25% which takes it to 1.25%. This is the first move in official interest rates since August 2016 but is the 13th rate cut in this rate cutting cycle that started back in November 2011 when rates were 4.75%. (It’s not a new rate cutting cycle as rates have not been raised since they started to fall in 2011.) This takes the cash rate to a record low 1.25% in the longest easing cycle on record. Assuming banks cut their rates by 0.25% it will take deposit rates to their lowest since the mid-1950s and headline mortgage rates to their lowest since the early 1950s, although some mortgage rates are already at record lows.

Source: RBA
The cash rate line shows authorised dealers’ rates & 90-day bill rates up until the early 1980s. The chart assumes all rates fall 0.25% in May. Source: RBA

So what’s driven this? Will it help the economy? How low might rates go? And what does it mean for investors?

What drove the rate cut?

Put simply economic growth has slowed sharply below its long-term potential reflecting the housing downturn, but other factors from drought to the threat to global growth from the US trade wars cloud the outlook. This in turn has seen the outlook for unemployment deteriorate – at a time when there is still a high combined level of unemployed and underemployed (at 13.7% of the workforce). Which in turn threatens to keep wages growth low and inflation below the RBA’s 2-3% inflation target for even longer. Reflecting this the RBA has revised down sharply its growth and inflation forecasts over the past six months and now doesn’t see inflation rising above 2% out to 2021 even with the technical assumption of two rate cuts. The RBA has concluded that it needs much lower unemployment than the 5% or so recently seen to get inflation back to target. But recent indicators point to rising unemployment. Hence the RBA has returned to cutting the cash rate to help boost growth.

What’s driving low inflation?

Inflation was just 1.3% over the year to the March quarter. Abstracting from volatile items, underlying inflation is just 1.4%. This reflects a combination of weak demand, high levels of spare capacity & underutilised workers, intense competition, technological innovation & softish commodity prices. The problem is that inflation has been undershooting RBA forecasts and the inflation target for some time, threatening its credibility.

Source: RBA, Bloomberg, AMP Capital
Source: RBA, Bloomberg, AMP Capital

What’s wrong with low inflation anyway?

Surely low price rises or falling prices are good. So, many have suggested the RBA should just lower its inflation target. Such arguments are nonsense. First, the whole point of having an inflation target is to anchor inflation expectations. If the target is just moved each time it’s breached then those expectations will blow around. There would be no point having an inflation target.

Second, there are problems with allowing too-low inflation. Statistical measures of inflation tend to overstate actual inflation by 1-2% because statisticians have trouble adjusting for quality improvements. And targeting too low an inflation rate could mean we are knocked into deflation in an economic downturn.

Third, deflation is not good if its associated with falling wages, rising unemployment, falling asset prices and rising real debt burdens – particularly when debt levels are high. It risks a debt deflation spiral of falling asset prices & incomes leading to rising debt burdens and defaults, and more falls in asset prices, etc.

Finally, targeting very low inflation gives central bankers less flexibility to achieve easy monetary policy in downturns as they have limited ability to achieve negative real interest rates.

More simply, low inflation is synonymous with low wages growth and this is contributing to a sense of dissatisfaction in the community. Getting both up to more normal levels is desirable.

It’s global not just local

While its natural to assess the RBA in isolation it’s clear that it is being caught up in global forces. The weakness in inflation is evident globally and reflects the same drivers as in Australia. Combine this ongoing softness in inflation with the latest threat to global growth – from Trump’s trade wars – and bond yields have pushed to new record lows globally. Reflecting this Australia bond yields have also been pushed to a new record low. So, the RBA is really just ratifying global market forces!

Source: Global Financial Data, AMP Capital
Source: Global Financial Data, AMP Capital

How far will the RBA cut rates?

Rate cuts are a bit like cockroaches. If you see one there is normally another nearby. We expect another 0.25% rate cut in July or August and two more rate cuts by mid next year taking the cash rate to 0.5%. We had thought 1% would mark the low and positive signs regarding residential property prices are helpful in this regard. But the flow of weak economic data and increasing risks to the global outlook with Trump’s trade wars and the slowing jobs market pointing to unemployment rising to 5.5% by year end make it hard to see just two rates cuts being enough, given that the RBA really needs to see unemployment fall to 4% or below to get inflation back to target.

But will the banks pass on RBA rate cuts?

With the recent reduction in bank funding costs meaning that last year’s 0.1-0.15% mortgage rate hikes should now be reversed and nearly 90% of bank deposits on interest rates above 0.5% (and hence able to be cut) we expect most banks to pass on all or the bulk of the RBA’s cut to customers. Short of a funding cost blow out, the interest rate structure on deposits should allow the bulk of subsequent cuts to be passed through but this may diminish as the cash rate reaches 0.5%.

But will more rate cuts help anyway?

Various arguments have been put up against RBA rate cuts: it should “preserve its fire power till it’s really needed”; “rate cuts haven’t helped so far so why should more cuts help”; “low rates won’t help as they cut the spending power of retirees and many of those with a mortgage just maintain their payments when rates fall”. However, looking at these in turn:

First, waiting till rate cuts are “really needed” risks leaving it too late as by then the economy will be in recession – monetary policy needs to be forward looking.

Second, rate cuts have helped the economy rebalance after the end of the mining investment boom by supporting non-mining spending. If the cash rate was still 4.75% and mortgage rates 7.5% the economy would have long ago gone into recession.

Finally, the level of household debt is more than double that of household deposits, so the household sector is a net beneficiary of lower interest rates. The responsiveness to changes in spending power for a family with a mortgage is far greater than for retirees. And, even if many with a mortgage just let their debt get paid off faster in response to falling rates this provides an offset to the negative wealth effect of the fall in house prices, reducing pressure to cut spending. And RBA rate cuts help keep the $A lower. So, while rate cuts may not be as potent with higher household debt levels and tighter lending standards, they should provide some help for households with a mortgage and for businesses that compete internationally.

Should the RBA do quantitative easing?

As the cash rate falls, we are likely to see an increasing debate around whether the RBA will use quantitative easing – ie using printed money to buy bonds to inject cash into the economy. QE is not our base – as we don’t think things are that bad – but as has been the case at other major central banks the RBA is likely to prefer exhausting cash rate cuts before considering QE and this is unlikely until it gets the cash rate down to 0.5% (beyond which lower rates will be a negative for the banks). QE is an option but to the extent that it lowers 10-year bond yields it may not help much in Australia as most household borrowing is on short term rates. It’s also debatable as to whether QE was the best approach globally. A more efficient and fairer option may be for the RBA to work with the Federal Government to provide direct financing of government spending or “cheques in the mail” to households with use by dates. This is often referred to as “helicopter money”. Such stimulus would be guaranteed to boost inflation! Hopefully, it won’t come that, and we don’t think it will but it’s an option. In the meantime, more fiscal stimulus could take some pressure off the RBA.

Implications for investors?

There are a number of implications for investors from the continuing fall in interest rates. First, low interest rates will remain in place for some time keeping bank deposit rates unattractive so it’s important for investors in bank deposits to assess alternative options. Second, the low interest rate environment means the chase for yield is likely to continue supporting commercial property, infrastructure and shares offering sustainable high dividends. Eg, the grossed-up yield on shares remains far superior to the yield on bank deposits. Investors need to consider what is most important – getting a decent income flow from their investment or absolute stability in the capital value of that investment. Of course, the equation will turn less favourable if economic growth weakens too much.

Source: RBA, Bloomberg, AMP Capital
Source: RBA, Bloomberg, AMP Capital

Third, the earlier than expected rate cut will likely contribute along with the election result and other recent moves to an earlier bottom in Australian house prices. However, with still high debt levels, tight lending conditions and rising unemployment it’s unlikely to set off another property boom.

Finally, RBA rate cuts will help keep the $A down in the face of already high short $A positions, strong iron ore prices and rising risks that the Fed will cut rates this year.

SOURCEhttps://www.ampcapital.com/au/en/insights-hub/articles/2019/june/rba-cuts-rates-to-a-new-record-low

Australian house prices getting closer to the bottom, but don’t expect a return to boom time conditions

Key points

  • The combination of the removal of the threat to property tax concessions, earlier interest rate cuts, financial help for first home buyers and APRA relaxing its 7% interest rate test points to house prices bottoming earlier and higher than we have been expecting.
  • As a result, we now expect capital city average house prices to have a top to bottom fall of 12% (of which they have already done 10%) rather than 15% and to bottom later this year.
  • However, given still high house prices and poor affordability, still very high debt levels, tighter lending standards and rising unemployment a quick return to boom time conditions is most unlikely.

Introduction

The negatives weighing on Australian residential property prices remain significant but the past few weeks have seen a number of developments that suggest that prices could bottom earlier and higher than we have been expecting. The election outcome removed a key threat, but several other factors also help. This note looks at the key issues.

The biggest home price fall in the last 40 years

According to CoreLogic data, capital city dwelling prices are down 9.7% from their September 2017 high, which is their worst decline in the last 40 years. Of course, there is a huge range here with prices down from their top by 15% in Sydney, 11% in Melbourne, 28% in Darwin, 18% in Perth, 2% in Brisbane, less than 1% in Adelaide and at record highs in Canberra & Hobart.

Source: CoreLogic, AMP Capital
Source: CoreLogic, AMP Capital

Drags on house prices remain significant…

The decline in prices reflects a range of factors, most notably:

  • A “correction” to the huge surge in prices into 2017 in Sydney and Melbourne that left prices very overvalued relative to income, rents and their long-term trend and affordability very poor and household debt very high.
  • The end of the mining investment boom impacting prices in Perth and Darwin since their peak in 2014.
  • A tightening in lending standards that initially cracked down on lending to investors but since 2017 moved on to interest only loans and then a more fundamental focus around credit quality which made it harder to get loans.
  • A surge in the supply of units to record levels which has led to rising rental vacancy rates in Sydney.
  • An 80% collapse in foreign demand.
  • A big pool of interest only borrowers switching to principal and interest loans driving higher debt servicing costs.
  • Price falls feeding on themselves – just as the boom in prices was accentuated by a fear of missing out (FOMO), falling prices are driving falling price expectations & leading to reduced demand and FONGO (fear of not getting out).
  • Investors started to factor in some probability that Labor would win the election which would have meant that negative gearing would be restricted and the capital gains tax discount halved – with estimates that this could have knocked another 5-10% from property prices.

The negatives weighing on the housing market remain significant. In particular, credit conditions are still tight with housing finance still falling with a brief bounce in February giving rise to further falls in March and the start-up of Comprehensive Credit Reporting which will see banks crack down on borrowers with multiple undeclared loans. And the pipeline of units to hit the Sydney and Melbourne markets is still huge as reflected in a still high crane count.

Source: Rider, Levett, Bucknall Crane Index, AMP Capital
Source: Rider, Levett, Bucknall Crane Index, AMP Capital

Meanwhile, auction clearance rates in Sydney and Melbourne have risen from their December lows but this looks largely seasonal with clearances still weak at pre-boom levels just above 50% as are sales volumes. What’s more the number of capital cities seeing monthly price falls has gone from three out of eight a year ago to now seven out of eight. Given all these considerations we have been reluctant to read too much into the slowing in downwards momentum in monthly property price falls in recent months, particularly given that Perth and Darwin have seen several phases where price declines slowed then sped up again during their five-year slump.

And Australian housing still remains expensive. Real house prices have fallen from 27% above their long-term trend to 7% above now, but housing is still expensive compared to incomes and rents. Sydney home prices may have fallen 15% from their 2017 high but this was after a 75% gain since 2012 when wages rose just 14%. And household debt remains very high.

…but some positives are starting to creep in

However, while the drags remain significant several positives have become apparent over the last few weeks.

First, financial support for first home buyers is now on the way with the Government’s First Home Loan Deposit (underwriting) Scheme. On its own it’s not a game changer particularly given that it’s capped in terms of numbers, the borrowers will be taking on big mortgages, which will come with a higher risk of negative equity, borrowers will still have to meet the tougher credit standards of recent times and it won’t kick in until next year. That said, with the Federal budget looking even healthier and probably already in surplus thanks to the surging iron ore price, I suspect that the deposit scheme will morph into a far more attractive home buyer grant at some point.

Second, APRA is looking to relax the 7% mortgage rate serviceability buffer. This was inevitable given APRA’s move to focus on more fundamental credit standards and 7% is way out of whack with current interest rates. Again, on its own it’s not a game changer – it wasn’t the main driver of the property downturn and borrowers still have to meet tougher credit standards. And don’t forget that relaxation of the 10% cap on growth in investor loans and the 30% limit on interest only loans last year had little impact. But it may help at the margin.

Third, RBA Governor Lowe has all but confirmed that rate cuts are on the way with his comment that “at our meeting in two weeks’ time, we will consider the case for lower interest rates” after observing that it needs lower unemployment to get inflation back to target. We expect 0.25% rate cuts in June and August and that the bulk of these will be passed on to borrowers given the recent reduction in bank funding costs. This would be a bit earlier than the August and November rate cuts we were assuming back in January when we last reviewed our house price forecasts. House prices bottomed around three months after the first cuts in 2008 and 2011. It may take longer this time as debt is now much higher, rates are already very low and lending standards are tougher. But they will still help.

Finally, the threat of changes to negative gearing and CGT is gone with Labor’s defeat. So a big negative for property is gone. Given the difficulty in predicting the election our house price forecasts had allowed for a 50% probability (ie 50/50 Labor would win) of an 8% additional drag on prices in Sydney and Melbourne from this, ie 4%. In other cities it was a bit less. Now it’s zero and we need to remove this from our forecasts.

It’s also worth noting that we have not seen much evidence of panic selling or forced selling by the banks despite rising (but still low) levels of negative equity. Mortgage delinquency rates remain relatively low – even in Perth where prices have fallen 18% and unemployment has spiked.

Meanwhile, strong population growth of around 1.6% pa is still driving strong underlying demand for housing at a time when supply is likely to start slowing again next year (given falling building approvals). And vacancy rates while very high in Darwin and above trend and rising in Sydney are actually benign to low in most capital cities and have collapsed in Perth.

Source: REIA, AMP Capital
Source: REIA, AMP Capital

So taking all these things together – some of which are minor but are still positive – it’s likely that we are going to see house prices bottom out a bit earlier and higher than we had expected.

What about the risk of higher unemployment?

The main risk is that Australia slides into a downwards spiral as the housing downturn – maybe in concert with a global slump -triggers a surge in unemployment which triggers rising defaults and a further plunge in house prices ultimately causing 30% plus falls in national property prices. This is still a risk, but we remain of the view that it will be avoided.

The housing cycle downturn will lead to the loss of around 60,000 jobs on our estimates. But there are a number of other things that will keep growth going – albeit at a slower pace than the RBA and Government are assuming – but which should be enough to stop unemployment surging beyond 6% and feeding back to become a bigger threat to house prices. Infrastructure spending is strong, resources investment is close to the bottom, non-mining investment is looking healthier, tax cuts for low and middle income earners next quarter (whether paid upfront or backdated a few weeks later when passed by Parliament) will provide some help, fiscal stimulus is likely to be increased helped by the windfall from the surging iron ore price and rate cuts will provide some help fo households with a mortgage.

Yes, the trade war could spiral out of control – but this probably means more stimulus from China which provides an offset for global growth and explains why the iron ore price keeps rising.

The other big risk is that investors decide to exit in the face of low net rental yields & diminished capital growth expectations.

Revised house price forecasts

Our forecasts for national average prices have been for a price fall of 15% top to bottom (of which we have done 10% so far) and for Sydney and Melbourne it’s been for a price fall of 25% top to bottom (of which Sydney has already done 15% and Melbourne 11%) and for prices to bottom in 2020. Reflecting the considerations discussed above – notably the removal of the threat of changes to negative gearing and capital gains tax, imminent rate cuts, assistance for first home buyers and APRA’s relaxation of the 7% serviceability test – we are revising the estimate for Sydney home prices to a 19% top to bottom fall, Melbourne to 15% top to bottom (partly because it has been holding up much better likely reflecting stronger population growth) and the national average to 12% top to bottom with prices likely to bottom by year end.

However, given still poor affordability, still very high debt debt levels, tighter lending standards and rising unemployment a quick return to boom time conditions is most unlikely. More likely is a lengthy period of constrained range bound house prices after they bottom later this year (although I thought the same around 2011-12 – but things are different now!)

SOURCE: https://www.ampcapital.com/au/en/insights-hub/articles/2019/may/australian-house-prices-getting-closer-to-the-bottom

Worry, wellbeing and why more of us work later in life

Dean Pearson, Head of Behavioural & Industry Economics, MLC

Ill health, job loss and family reasons mean one in two Australians will retire earlier than they anticipated. This is a now a well-established trend in MLC’s Wealth Behaviour Survey. But many more are staying in the workforce longer than previous generations.

That’s largely because pre-retirees, typically somewhere in the final decade of their working lives, feel less prepared for retirement than ever before. This is driven by fears of inflation and increased cost of living as well as the fact that people are living longer. Retirement for many people will be 30 years or more.

The gap between expected retirement income and the amount people expect they’ll need to live comfortably in retirement is on the rise. Property values are falling and most people like where they live, so they don’t want to cash in on this prized asset – only about one in 10 people in the MLC Wealth Behaviour Survey would sell the family home with a similar number prepared to use the equity.

So it’s no surprise that the number of Australians who plan to work past the retirement age is on the rise, with the need for greater financial security cited as the most important factor. One in five people in the MLC Wealth Behaviour Survey expects to work up to the age of 70, with one in 20 predicting they’ll be in the workforce past their 75th birthday.

But it’s not all about money because the survey data shows quite clearly that wealth means different things to different people. When we asked people what constitutes overall wealth and gave them the choice of ‘income’, ‘net worth’ or ‘lifestyle’, income was the most common response but almost as many people said lifestyle. These are the ‘lifestylers’ Bernard Salt has written about.

When we asked people what lifestyle wealth meant, the two aspects that came out were being debt free and having enough funds to feel confident about handling emergencies. But almost half of Australians don’t feel like they’ve done enough to achieve their wealth goals.

Insufficient earnings is most commonly cited reason for not having done enough but that’s followed by self-doubt. This fear and self-doubt around not having done enough really shone through when we asked people to describe the sort of retirement they want and the sort of retirement they expect to have.

When we asked people to describe the sort of retirement they want, they used words like ‘relaxed’, ‘travelling’, ‘comfort’, ‘happiness’, ‘freedom’, ‘choice’, ‘flexibility’ and ‘health’. Only one in 20 people used words like ‘cash’, ‘money’, ‘house’, ‘rich’ or ‘wealthy’.

The descriptions of the retirement they want are often in sharp contrast to the retirement they expect to have. More than one in five used words like ‘poor’, ‘tight’, ‘frugal’, ‘stress’, ‘worry’ and ‘hard’.

What’s your motivation?

Not everybody considers working for longer because they want to have more money. For some, it’s about working because they enjoy it. Yes, some will work beyond the retirement age to accrue the funds they need to support a desired lifestyle, but others are motivated by wellbeing factors like perception of self-worth and regular interaction with other people.

Whether your motivation is primarily to boost your financial position or for wellbeing purposes, the good news is that structural changes to the world of work are creating a raft of new opportunities. The sharing economy means you can now get paid for driving people around after a lifetime of being a free taxi service for the kids and grandkids. And if you have an investment property, or even a spare room, there’s an opportunity to spend a few hours a week keeping it in shape for short-term rentals.

Then there’s the time-honoured tradition for retired tradies and other ‘handy’ people to spend a few hours a week helping clueless professionals navigate the aisles of vast hardware stores. Or you might prefer to put your skills to work supporting a good cause that’s had a major impact on your personal life – perhaps you lost a loved one to an incurable disease or one of your children was born with a medical condition.

It’s temporary hours without a structured career path but in the sharing economy you can usually take advantage of these opportunities on your own terms. This is making many older Australians look at themselves in the same way as young people do. They become more entrepreneurial by default, because there isn’t the job security that there once was, but that’s just fine thanks very much.

SOURCEhttps://www.mlc.com.au/personal/blog/2019/05/worry_wellbeing_and_why_more_of_us_work_later_in_life

Ageing is old hat for baby boomers

This article originally appeared in The Australian

There was a time, not so long ago, when retirees were happy to be called “retirees” or “seniors”. After all, these older Australians had worked hard, raised a family, paid their taxes, volunteered, done their bit and now it was time for them to enjoy a long, happy and healthy retirement as “retirees”.

Let me assure you that the endgame hasn’t changed — baby boomers (4.7 million born 1946-1963) still want to enjoy a long and happy retirement — it’s just that they don’t want to be ­labelled as, or associated with, anything that includes, well, let’s just refer to the concept as the “r” word.

Shhh. I think he’s referring to the words “retirement”, “retired” and/or “retiree”.

No, no, no we baby boomers aren’t retired. We will never retire. Retirement is for old people. For goodness sake, our parents retired, and they were, like, really old.

I have it on good authority that there is, at this very moment, a cell of revolutionary baby boomers locked away in a safe house, with a whiteboard, workshopping words to replace — by whatever means — expressions such as “retirement” and “retiree” and “senior citizen”.

“They all must go,” says their slightly crazed dear leader. “We must install new words, our words, uplifting words that speak to the kind of people we are and the kind of society we want to create ­beyond the age of 60.”

“Si, si, si,” chant the boomer cell’s compadres.

Here’s the thing. Baby boomers don’t think they’re old and so being called “retired” or “retiree” let alone “senior citizen” is kinda offensive.

Plus, being 60-something today, or 70-something or older, isn’t like being this age in previous times. We are healthier, more interested in diet and exercise, we have access to better healthcare. And, because those dillydallying millennials are having kids later in life — baby boomer’s grandkids — there’s the promise of little bundles of grandkid joy to look forward to.

There is no time to be “old” in this world. There’s too much to be done. Plus, baby boomers are confident that older Australians will be soon embraced by the coming social revolution centred around inclusion and diversity.

“What, you mean there is no one in your senior management team who is in their 60s?” “How can that be?” “Does anyone know what a recession looks like?” “Surely, with no representation of older Australians in the decision-making process you are at risk of unconscious bias?”

The winning term thus far ­determined by the secret cell of revolutionary baby boomer wordsmiths, is “lifestylers”.

Baby boomers aren’t old, and neither are they retired; they have moved into the lifestyle stage of the life cycle. You know how KFC is a contraction of the original term Kentucky Fried Chicken — I suspect to hide the f-word (“fried” in case you’re wondering) — then so too should retirement homes shift their wordage selection from retirement to lifestyle.

“We’re moving into a lifestyle community.”

“Oh, how wonderful … that sounds fabulous.”

It is only a matter of time before journalists and social media influencers are admonished for using terms like grey nomads to describe older caravan travellers. Baby boomers are no less enthusiastic caravaners than preceding generations, it’s just that collectively they have been whiteboard-sanitised into the descriptor “adventure travellers” or, better still, “eco-travellers”.

I mean, “grey nomad” suggests an imagery of towelling hats and socks-with-crocs. Whereas the term “eco-traveller” suggests an imagery that is kinda Kathmandu-kitted and whose caravanning travels are purposed to explore the greater good of Gaia (“Earth mother” for those not operating at peak environmental velocity).

I have a theory why baby boomers are inclined to reimagine how life can be lived beyond the age of 60. Yes, it is that they are healthier and better educated than previous generations. But that’s not what’s motivating baby boomers right down to changing the language that is used to describe retirees. It is something deeper, more personal, more fragile, more emotional — it is something that is coming from their heart and soul.

Baby boomers are the first generation of retirees in history to have been witness to their parents’ retirement and ageing. Previous generations of parents died in their 60s, or earlier. They did not grow old as we now grow old. Not only that, but baby boomers have a ­detailed photographic record of their parents aged 60 and 70 and 80. Scratch a baby boomer and poke and prod around this question and you will get the same ­response.

Baby boomers are proud of the way they’re ageing; they are more active, more empowered, and they look better than their parents did at the same stage in life. Boomers are determined to reimagine how life might be lived because they saw how the Depression-generation, their parents’ generation, aged … and they do not want to go there. Hell no, we won’t go! Hell no, we won’t go!

Here’s a photo of dad at 60 at 70 at 80 and here’s what he was doing. Boomers are quietly benchmarking their ageing against the ageing of their parents. They need to know, they want to be told, that they are ageing better, that they are getting more out of life, than their parents did at the same stage in the life cycle.

I have this theory that older men magically as if suddenly possessed by some Ageing Demon from ancient times, go out and buy a rain gauge.

This whole ageing thing can go either of two ways. Either boomers baulk at traditional pathways to ageing. Or they might officially talk the talk, but deep down they cannot resist the allure, the engagement, the visceral thrill of discussing last night’s rainfall with family members. The Ageing Demon from ancient times strikes again. Free advice to Bunnings’ buying department: seek out Guangzhou-made, backyard rain gauges to cash in on the ageing of baby boomer men as they move into that time in life when matters ­meteorological seem to matter most.

There is a sense that baby boomers are indeed entering a lifestyle stage of the life cycle, a window of perhaps a decade or so when their knees and hips are still OK, and they’re trying to cram in as much living as possible. Cruises and travelling, including caravanning, visiting family and helping out here and helping out there, and chalking up projects, and ticking off lists, are all on the active ­retiree’s — oops, sorry — the ­active lifestyler’s later-life agenda. And they feel that they deserve it, they have worked for it, that they have made sacrifices from a young age, but now it is their time, our time, my time. In fact, if there were to be a rallying cry — a cri de coeur — for our whiteboarding boomer cell it wouldn’t be viva la revolucion it would be “it’s my time now”.

And for these lifestylers, these my-time-now aficionados, these older baby boomers determined to make the most of their remaining years — calculated to be: whatever their parents got, plus a bit — the tricky balance is to get things done, to tick things off, before health and finances fail.

The boomers are right now passing through the 60s and the 70s as hip and groovy lifestylers (with a secret lust for rain gauges), but progressively over the 2020s I am sure this generation will work their wordsmith magic on making the “era of the over-80s” sound positively alluring.

Viva los lifestyler!

Bernard Salt is managing director of The Demographics Group. Research by Paul Kelly.

bernardsalt@tdgp.com.au

SOURCEhttps://www.mlc.com.au/personal/blog/2019/05/ageing_is_old_hat_for_baby_boomers