Posted on 23/10/2020
Am I ever going to see positive real rates again?
Source: With Apologies, The Angels. “Am I ever going to see your face again?”
September Quarter 2020 Review
Compared to the first half of 2020, the September quarter was relatively calm with most investment returns drifting slightly higher. To state the obvious, this has been an unusual year and there’s still a quarter left and an election in the US to get through.
Economic performance was mixed over the last few months with some sections of the world and Australian economies re-opening for business. Policy makers are continuing to support their economies with a mix of accommodative monetary policy and fiscal stimulus. Both have been supportive for credit and equity markets, although towards the end of September, international markets seemed to shift their attention back to a potential Northern Hemisphere second wave of Covid-19. The Northern Hemisphere winter needs a good Covid-19 scenario or at least one where policymakers adapt to the changing situation.
Whilst we expect some of the bad news in relation to high unemployment rates and company bankruptcies to continue for a little while yet, it’s important to remember that in a lot of cases this is the result of economic damage done earlier in the year. Our focus is to look through this news, as governments try to balance the healthcare crisis and provide assistance via spending programs, tax cuts and encouraging those who have jobs to get back to the office.
From a portfolio perspective we continue to remain cautious, being broadly neutral on equities and for flexibility, holding more cash than our target asset allocation. We continue to believe that maintaining a diversified portfolio is the most appropriate approach in these highly uncertain times.
The table below shows Statewide’s investment option returns ending 30 September 2020 over 1 year, 3 years, 5 years, 7 years and since inception.
Statewide Super Investment Option Returns to 30 September 2020*
|Investment option||1 Year ||3 Years (% pa)||5 Years (% pa)||7 Years (% pa)||Since inception (% pa)|
*Selected Statewide Super Pre-Retirement Member Investment Options.
Pension returns are not shown but are available here.
The performance for the default MySuper option ranks 5 out of 38 funds over the 7 years ending 30 September 2020 according to the SuperRatings** MySuper survey.
**Sourced from SuperRatings Accumulation Fund Crediting Rate Survey Sep-20. For more information about SuperRatings visit www.superratings.com.au. Ratings are only one factor to be taken into account when deciding whether to invest in a financial product.
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.
Record Low Interest Rates
One of the biggest changes to occur in investment markets in the last decade has been the use of monetary policy by central banks around the world. It doesn’t seem like all that long ago that retirees used to live off the income generated by their savings, and Japan was generally regarded as the exception to the rule, with record low interest rates and a central bank that was conducting a form of quantitative easing (before the term was widely used).
Roll the clock forward and almost the entire world now has record low interest rates. The chart below shows the income from developed world bonds. The blue line, adjusting for inflation, shows we are in a world where many developed economy nations can borrow at rates less than inflation. For example, the Australian government can borrow over 10 years at rates near 0.85! At these levels, the government should not be concerned with budget debt and instead use the incredibly low rates on offer to stimulate the economy.
Furthermore, the Reserve Bank of Australia has been targeting an official cash rate of 0.25% since 20 March 2020 and intervening in bond markets to ensure the 3-year Australian Government bond rate also hovers around this level. This implies a prolonged period of low interest rates for the next 2-3 years. In fact, economists are now debating when, not if, the RBA will drop the official cash rate to just 0.1%.
Whilst this is great news for businesses, households and governments borrowing money, for those living off their savings income, it’s harder.
Looking ahead we can pretty safely say that returns in Statewide’s Cash investment option will be very low for the next few years.
So what should one do?
Investing in cash generally provides a high level of certainty, however that is now looking like the certainty of a very low return! Investors may be tempted to seek a higher return but to do so must take on more risk, and as we saw during March 2020 share markets can be volatile.
The Conservative investment option is Statewide’s least aggressive diversified investment option and has been designed to provide returns of approximately 1% above inflation (CPI), after fees and taxes, over rolling seven years periods. Being diversified, it provides exposure to assets other than cash, including bonds, shares, property, infrastructure and defensive and growth alternatives. The asset allocation is below.
Whilst the level of investment risk is considered low and the probability of generating a negative return is 1 year in 20, volatility can test an investor’s risk appetite. An example of this is the 2019-20 financial year where the Conservative (super) investment option produced a return of 1.38% after fees and tax, but between 23 February - 24 March 2020 the option returned -6.75% (after fees and tax).
Statewide offers its members the ability to select more than one investment option, so splitting an investment 50% Cash and 50% Conservative (or any other combination) is also an alternative. A 50:50 split would have reduced the Feb/March sell-off to around -3.3%, but also would have lowered the financial year return to closer to 1%.
Unfortunately, as the above shows, there is no magic solution to a world of record low interest rates and investors need to consider all of the risks ahead of making any change to their investments. As always, we are here to help, so please call us if you need further advice^.
2020 Federal Budget
At the time of writing the October 2020 Federal Budget had just been handed down. Whilst every economist in the country will have a view on what they like and what they don’t like, our initial view of the budget is that it’s ok but the government should do more.
As we have been saying for some time, we favour the government borrowing in a time of economic contraction to reduce unemployment, increase productivity and provide support to those that need it.
The announced tax cuts and incentives for business to invest and hire should all be broadly positive, however on the negative side the infrastructure spend looks low. There’s little in it for those most in need (e.g. social housing, unemployment benefits) and almost no targeted assistance to areas severely impacted by Covid-19 (Victoria, tourism and hospitality sectors).
It’s hard to believe that it’s October already and it’s less than 3 months until 2020 bids us farewell (and many will be happy to say good riddance).
For those hoping for a quiet end to the year, a word of caution: ahead of us we have the potential for a second wave of Covid-19 in the Northern Hemisphere, the success or failure of multiple Covid-19 vaccines currently undergoing their final phase 3 human trials and potentially the most divisive US election in history with one candidate not certain to accept the result.
Closer to home we will see how quickly and effectively State and Federal Governments can implement the huge fiscal stimulus provided in the Federal Budget, whether the RBA cuts the cash rate further to just 0.1% and hopefully the re-opening of borders, as we continue to fight the spread of the Covid-19 virus.
Trying to predict what will happen next is near impossible, so we attempt to manage your investment to withstand shocks and take advantage of tail winds. It’s important that you understand the level of investment risk you are taking with your superannuation and are comfortable with your investment decision. Please get in contact at any time if you need further advice^ on your investment.