30 June 2012 closed a difficult year for share investors. Australian shares returned -6.7% and International shares (in Australian dollar terms) – 2.1%. By contrast the Australian and International fixed income segments returned 12.4% and 11.6% respectively. That was the year that was but where to from here…
Firstly, for those investors relying on income from their investments, it is worth remembering two things about last year’s results
1. Negative share returns do not equate to no income from shares (particularly in the case of domestic equities). The price of a share may fall but that does not necessarily translate to a fall in payout (for example, the share price of BHP fell nearly 30% but the dividend per share increased); and
2. Positive fixed income returns do not equate to higher income from fixed interest. The pure income return from fixed interest does not change over the life of that fixed interest investment. But, similar to a share, fixed interest investments are traded and it is this market quality that results in price volatility. In general terms, as interest rates fall, the (traded) value of a fixed interest investment rises.
The headline constraints for International shares still remain – Eurozone weakness, a fragile US economy and slowdown in emerging economic growth. However, resolution of the Greek political landscape appears to have prevented a breakdown of the economic union, there are signs of subtle recovery in the US and with inflationary pressure reducing, emerging countries such as China and India have scope to ease policy and stimulate growth. In Australia, the three big drags on shares – relatively high interest rates, a high Australian dollar and concerns about a hard landing in China – appear to be diminishing.
As the interest rates fall, the (traded) value of a fixed interest investment rises.
By contrast, with interest rate policy generally eased or easing around the World (and as noted above fixed interest prices move inversely with interest rates), there are headwinds for the fixed interest sector in the next year.
Successfully predicting the asset class that will outperform the others for the next 12 months, let alone the return itself, is fraught with danger. If you wish to speculate on that, and back that with your money, I wish you the best of luck. A less volatile approach is to diversify a portfolio of assets across a range of asset classes. In general terms, the lower the return required from your portfolio, the lower the allocation to equities that is required. However, given that equities are yet to recover to their 2007 highs (and may well take longer than the 40 month average since 1900 to do so following the GFC), and the relative tailwinds/headwinds facing equities and fixed interest, I would be disinclined to significantly reduce existing equities exposure in re-balancing a portfolio.
