Posted on 09/02/2021
“Ground Control to Major Tom
Take your protein pill and put your helmet on”
Source: David Bowie – Space Oddity
December Quarter 2020 Review
The December quarter was a standout for investors, propelling 2020 calendar year-end returns into positive territory in what was the strangest year for markets and the economy in living memory. The global support in terms of lower interest rates and government stimulus helped to keep economies from spiralling into a depression while still fighting the ravages of the COVID-19 virus. The strong quarter-end to December is reflected in the performance of Statewide Super’s various investment choice options, particularly International Shares and Australian Shares with returns in the double digits.*
Where to from here? Hopefully the local economy continues to recover and the global economy starts to get ahead of the COVID-19 winter via vaccines and enforced lockdowns. Uncertainty remains; a mutating virus and vaccine response will force all economies to take a little longer to recover. The markets have priced in a medium-term return to some sense of normality.
The returns certainly reflect the good news of a vaccine response to the virus although we believe the market may have gotten a little ahead of itself. Our positioning of our shares portfolio towards non-US shares, emerging markets, “value” and small- to mid-capitalised companies paid off in the December quarter. Also, our investments in private credit, corporate bonds and structured credit have started to meaningfully outperform government bonds. Our base case is for continued global economic recovery coupled with lower and more volatile expected market returns.
The table below shows superannuation investment option returns ending 31 December 2020 over 1 year, 3 years, 5 years, 7 years and since inception.*
Super Returns to 31 December 2020^
^Selected Statewide Super Accumulation Member Investment Options.
*Sourced from SuperRatings Accumulation Fund Credit Rating Survey December-20. Returns are net of investment fees, the asset-based administration fee and tax on investment income. Further administration and other fees apply. See our “Fees and Costs” booklet for more information. Investment returns can go up and down and are not guaranteed. All investments have risk, and past performance is not a reliable indicator of future performance. For more information on risks associated with investing, consider the "Risks of Super" and "How we invest your money" booklets available at statewide.com.au or by calling 1300 65 18 65.
Pension returns are not shown but are available here.
The default MySuper option ranks 5 out of 42 funds over the 7 years ending 31 December 2020 according to the SuperRatings** MySuper survey. Pleasingly, 7 out of 10 investment choice options are in the first quartile over 7 years and 9 out of 10 are above median using SuperRatings** peer performance surveys.
**Sourced from SuperRatings Accumulation Fund Crediting Rate Survey Dec-20. Returns are net of investment fees, the asset-based administration fee and tax on investment income. Further administration and other fees apply. See our “Fees and Costs” booklet for more information. Investment returns can go up and down and are not guaranteed. All investments have risk, and past performance is not a reliable indicator of future performance. For more information on risks associated with investing, consider the "Risks of Super" and "How we invest your money" booklets available at statewide.com.au or by calling 1300 65 18 65.
The Australian economy seems to be faring better than expected. A combination of virus control measures, early release of a vaccine, lower-for-longer interest rates and fiscal stimulus has provided a better path to recovery for Australia compared to other parts of the world.
We have upgraded our base case Australian economic recovery from a “U-shaped” one to a “swoosh” shape. Many parts of the economy are actually “K” shaped with some parts booming whilst others like travel, international tourism and tertiary education suffering due to the closing of international borders.Nonetheless, households have the ability to spend more and we hope further fiscal support or extensions to programmes like JobKeeper for a bit longer will support the private sector and allow businesses to invest for the long term.
Risks are still present with many countries experiencing ongoing COVID-19 outbreaks and a slow roll out of vaccines, but the bigger picture is one of hope compared to the despair of 9 months ago. Markets around the world have reacted positively to the surprise early vaccine creation, approval and roll out. The US election result, coupled with the Democrats having control of both Houses of Congress, has also enabled markets to price in an expected relief package for the US which is still grappling with the virus outbreak.
The bubble in new - Crypto, Tesla, Electric Vehicles and Disruption
The late economist, Professor Charles Kindleberger, wrote one of the great books on the history of markets, “Manias, Panics, and Crashes: A History of Financial Crises” (1978). In his book, Professor Kindleberger wrote “new opportunities for profit are seized, and overdone”. Indeed, this appears to be the current state of play with respect to all things Tesla, Bitcoin, Electric Vehicles, Disruption and Robinhood retail trading accounts.
To provide a sense of the “bubble” currently in parts of the markets, the chart below shows the market capitalisation of Tesla versus the other major car companies and the number of cars sold by these companies. Despite selling 150 times the number of cars Tesla does, the combined valuation of all the major car companies is 10% less than Tesla.
In terms of Bitcoin, the following chart shows the recent Bitcoin price appreciation compared to other historical bubbles.
Finally, the chart below via Goldman Sachs and Bianco Research shows the recent price appreciation in unprofitable technology companies.
Legendary investor Jeremy Grantham, GMO (and market bubble spotter), recently wrote the following in his 2020 year-end update:
“The long, long bull market since 2009 has finally matured into a fully-fledged epic bubble. Featuring extreme overvaluation, explosive price increases, frenzied issuance and hysterically speculative investor behaviour, I believe this event will be recorded as one of the great bubbles of financial history, right along with the South Sea bubble, 1929 and 2000.”
Moreover, new trading vehicles like Robinhood, Reddit stock messaging boards and Special Purpose Acquisition Companies (SPACs) provide the fuel for further market speculation. Parts of the market are showing signs of extreme overvaluation and investor exuberance.
Statewide has minimal exposure to Tesla and zero exposure to cryptocurrencies like Bitcoin. Below we describe what we are doing to avoid the overvalued parts of the stock market.
The Current opportunity in "Value" Shares
We’ve mentioned the opportunity that we consider exists in value shares in previous quarterlies, so we thought we’d start off with a description of value for our members. Value investing involves purchasing shares (or other assets like corporate credit) where the company’s fundamental value is not fully reflected by the current market share price. Why would that occur? It may be because a business has experienced a temporary difficulty/dislocation and the market has priced it as permanent, therefore our external managers can buy businesses trading at a discount to their true worth. Over time, that discount narrows by the share price increasing and the value premium shows up in excess returns over say a passive benchmark. The key to value investing is maintaining a strong philosophy and discipline that one gets rewarded over time for holding value investments. It’s not supposed to be easy or without risk, hence the need for skilled long-term investors to apply their fundamental research in assessing the various opportunities that arise from time to time in this style of investing.
The chart below from Jody Fitzgerald at Morningstar highlights the current opportunity globally in value investing.
Diversification via Asset Allocation
By far the most effective response regarding the managing of longer term returns that aren’t too exposed to one asset class is diversification. Our various multi-asset-class options range from Conservative (holding approximately 15% shares) to the higher return/risk option High Growth (holding approximately 68% in shares). The default MySuper option holds about 53% in shares. Using other asset classes like cash, bonds, property and infrastructure, the end portfolio can benefit from a diverse set of returns and not be too exposed to the variability of shares.
The chart below generated using Solve (an external investment risk management analytics tool), shows a simplified stress test under various scenarios for the diversified options. Unsurprisingly, the greater the allocation to higher risk options, the greater the risk of a larger short-term negative return.
Source: Stress Testing Options via data from JANA (external investment advisor) and Internal Investment Team
In contrast, the chart below shows anticipated returns for the next 7-10 years for our diversified investment options, using internal investment team assumptions and those of JANA, our external investment advisor. These forward-looking returns are materially lower than the returns achieved over the past 7 years.
Risk vs return by investment option
Source: Return and Risk assumptions from the Internal Investment Team and external investments advisor. Assumptions are for accumulation investment options. Returns are net of investment fees, the asset-based administration fee and tax on investment income. Further administration and other fees apply. See our “Fees and Costs” booklet for more information. Investment returns can go up and down and are not guaranteed. All investments have risk, and past performance is not a reliable indicator of future performance. For more information on risks associated with investing, consider the "Risks of Super" and "How we invest your money" booklets available at statewide.com.au or by calling 1300 65 18 65.
The year ended well for our members across the various investment options. In what one could describe as the most challenging economic conditions since the 1930s, both the economy and markets are showing signs of improvement. In our view, the markets have priced too much of the recovery in too soon and hence parts of the markets are extremely overvalued, which we will aim to exploit.
We continue to maintain asset allocations that underscore diversification (namely holding cash, bonds, property and infrastructure) in various weights depending on their risk/return profile. We maintain this is the most effective way to help achieve both pre- and post-retirement needs.
The outlook for 2021 and beyond for the economy is hopefully one of sustained recovery that provides employment and the conditions for businesses to invest over the medium to long term. The key to prosperity for the economy and markets is sustainable productive growth shared across capital and labour.
We thank you for your continued membership over what was a trying and testing 2020. Please contact us if you need guidance on your superannuation at Statewide Super.