Investors are confused by strange markets


Investors in today’s markets are confronted with a barrage of information, opinions, statistics as well as claims from marketing and promotions that can make it very difficult to decide just what to do, and when.

This post isn’t going to make your decisions any easier, I’m afraid – but it may just help you to see what impacts a financial planner would consider when looking at the world of money right now. If that’s helpful then my time is well spent. If it isn’t – well, just send me a note with suggestions of where you think I’ve gone wrong, and I will see what I can do.

Investors want certainty

To be more specific, investors want – and have only ever wanted – a short list of outcomes:

  • High returns
  • Low risk
  • No costs, and
  • No taxes.

Again, I will need to stand aside from those objectives, as I am not aware of any strategies or outcomes that can provide all of those outcomes. To some extent, it’s a bit like a sliding rule where the total allocation to each of those objectives is equal to 100%. If you want high returns then you will not be able to obtain the lowest risk. There will be a cost and (usually) there will be a tax impact somewhere. Similarly, if you want no costs then you are going to have to forgo high returns. It may be possible to get low risk and no taxes but you aren’t likely to find all 4 outcomes in the one strategy.

Investors confront many options

One day, it may be possible to walk up to an ATM and punch in a few details and obtain an investment strategy and recommendation that is perfectly tailored to your individual situation. Maybe. Until that time, investing involves lots of thought and research and balancing of priorities.

So I’ve set out below my musings on the state of investment markets as they currently stand. Anything you read here will only be current for day or so. After that there will be shifts in economies, outlooks, legislation, product development and a host of other areas. If there is any value in this post, it is to be found in the overall approach to considering money and markets and how they may or may not interact.

Investment markets are rarely certain

In fact, that is the starting point of a financial planner assessment of “where things are at”. If we *know* that there is no certainty then we can focus on just what we do and do not know, and work from there.

Australian share market…

If we start by looking at the sharemarket locally, here in Australia, you’d have to say “Another day, another yo-yo in share markets”.

Let’s look at the most recent 3 months of Australian sharemarket movements… I’m going to use a lot of charts in this post, and here is the first one.

investors michaels musings australian share market daily close over three months

This chart shows the “All Ordinaries” price index closing price over the past 3 months [click on chart to go to source]

The pattern you see in the chart is what financial types refer to as a “trading band”. It *usually* indicates that a lot of investors and analysts are waiting for some sort of clear direction from one or more economic or financial indicators before they will do much more than make small changes to their holdings..

Leads us to USA Interest rates…

To understand this, *I think* we need to look at USA interest rates – not the Fed official rate but the market-adjusted 10 year bond rate, which echoes around the world’s finances with every nip and tuck move it makes. The chart below shows the 12 month history of the interest rate yield for those buying and selling USA government 10 year bonds. I’ve included a yellow band to show how the initial lift in rates has failed to move on to more than a blip.

investors michaels musings USA 10 year bond market yield 12 months

Yet another chart – but this one is truly fascinating. It shows the “yield” (in effect, the interest rate investors are likely to achieve) for people buying USA 10-year government bonds.
You can see that the range of interest rates available has moved between 2.1% and a bit more than 2.4% since November 2016. In effect, the yield has risen and fallen in the period gone but it has not really changed much.

The sharp rise seen in September last year can be partially attributed to Donald Trump’s election and his pre-election promises to build $1 trillion of infrastructure, to reduce taxes and to reduce business regulations. Underneath all of this brouhaha, you can see that the US economy was already in recovery mode, with longer term (in this case, 10 year) interest rates on government debt in a gradual rising phase. However, post-election Donald Trump has been unable to get his healthcare election promise into legislation and there is now considerable doubt on his ability (more correctly, his and the dominant Republican party) to get the higher spending and lower taxes legislation through.

If lower taxes, less regulations and increased infrastructure spending all fail then the US economy is running on it’s current gas alone. That is, a (very) gradual recovery into the face of a Federal Reserve Bank that is determined to increase interest rates and begin to reduce some of the huge quantitative easing (aka money-printing) that has swollen their balance sheet by more than a few trillion dollars. In other words, there’s not a lot of promise for growth in that scenario. If growth is retarded by increasing official (short-term) interest rates then the “yield curve” will flatten, which means that longer term interest rates set by the market (eg. The 10 year bond market) may not rise all that much or all that fast.

Which can feed the Australian property market

The impact of interest rates can be seen in the Australian listed property market, which fell a year ago on the expectation of increased longer term interest rates, only to recover somewhat on the expectation that rates may not rise as fast as many thought they may..

investors michaels musings Austrailan property trust index vs USA interest rates

Another chart – this one showing the Australian listed property index
(in red – left hand side axis, with the market code “XJP”) compared with the USA 10 year government bond interest rate (in blue – right hand side)

So what is this chart telling us? It suggests that the listed property share prices (in red on the chart) fell on the expectation of lifting future interest rates – but rose again when it seemed that interest rates may not be rising all that fast after all. And then they fell again in mid 2017 as interest rates appeared to rise yet again – sort of!

And definitely impacts Australia’s financial system

Australia’s sharemarket has a (very) strong leaning towards banks, investment, insurance and finance companies. Most Australian investors hold money in these areas. These sectors make up a large slice of the S&P/ASX 200 Index and All Ordinaries Index. The S&P/ASX 200 Financials Index has the sharemarket code XFJ – which includes about 26 large companies. Many of these company’s share prices are highly susceptible to interest rate movements. To illustrate my point of Australian interest rates reflecting USA interest rates, I’ve charted below the Australian Financials Index (XFJ) against the USA 10 year government bond interest rate yield.

investors michaels musings Austrailan financials index vs USA interest rates

Even if you were bored by the previous charts, I think that this one could be more interesting for you…
We are again looking at the USA 10 year government bond “yield” or interest rate, and we are comparing it with the Australian sharemarket “Financials index”, which you can find under the code “XFJ” if you can access sharemarket charts.
Just look at how similar Australian financial companies share prices have followed USA interest rates…! [source : IRESS]

I’m not sure that many people are aware of just how much our market is tied to USA interest rates – even though we are measuring against an overseas asset class and our currency moves in large swings. Regardless of the currency movements, you can easily see the impact of USA interest rates on our major companies and therefore on our markets. This relativity (or “correlation” in financial market terms) may or may not continue but for the moment, it appears that ther is a strong interaction between USA interest rate expectations and the level of the Australian sharemarket.

Forget USA Michael – what about China?!

All of this ignores the impact of our largest trading partner – China – and the recovery in metals, mining and coal prices. All Australian investors are interested in these sectors.. We can look at this through two indices – the “Metals and Mining Index” (code XMM) and the “Resources Index” (XJR). As you can see from the chart below, overall resources have strongly reflected the impact of metals and mining prices. The impact of energy has not been large enough to alter this trend. So there has been a good recovery in listed resource share prices but it has not been big enough to override the flat financial companies index share trading band.

investors michaels musings Austrailan Resources Index vs Metals and Miners Index

This chart shows a resources index as well as a “metals and miners” index.
As you can see – there has been a lot of movement but no real clear direction for some time now.
[source : IRESS]

To highlight the more volatile energy company shareprice movements, we can compare the “Energy Index” (XEJ) with the “Metals and Mining Index” (XMM). The chart below shows the energy index in red, and you can see that the energy index has been volatile but is about where it was 12 months ago.

investors michaels musings Austrailan Energy Index vs Metals and Miners Index

This chart illustrates two very volatile areas in the Australian sharemarket – energy companies and metal and mining companies.
There is a wide range of business models and profitability levels behind these two lines, yet they are still far more in-step than you may have expected to be the case..
[source : IRESS]

So how does all this tally up, when we consider a “Balanced Fund” style approach to investment returns in Australia over the past 12 months?

A good benchmark to review is the Vanguard Balanced Index Fund (VAN0108AU.FND) as it includes fixed income, property, local and overseas shares. A lot of investors have their money in similar types of funds. This investment is not superannuation, so it includes the payment of dividends or distribution income. The chart below illustrates the 12 month return of this fund. Note that the apparent large fall in early July was a result of the end of year dividend distributions that tallied a little over 7c. Add that into the price and you’ll see that the overall fund hasn’t really moved all that much over the past 12 months. The price started at about $135 and it will have finished somewhere around $140, if we include dividends.

investors michaels musings Vanguard Balanced Index investment fund

This chart takes a bit of looking at, so sit back and rest for a moment before pondering it in detail…
It appears that the price of the underlying assets (the Vanguard Balanced Index Fund) is moving quite a bit – but when you look at the axis you can see that there really hasn’t been all that much movement over the entire year.
To some extent, you would expect that from a balanced fund – but with all the big changes happening around the world of money, it would be reasonable to have expected far more volatility of movement over the past 12 months.
[source : IRESS]

What are investors to do?

From here there are a lot of pathways that research could take us but they would each depend on where we wanted to put our focus. At this moment, I’m really just sharing some thoughts and musings on a global situation that has see-sawed up and down and between asset classes and currencies and interest rates, without any large “break-out” in any particular direction.

If you are investing for the longer term, much of this is just “noise” – but the reality is that anyone investing today would want some idea of the current situation – even if they are investing for the longer term.

Let me know if this style of insight is helpful / boring / too chart’y / fascinating / technical / exciting. I’ll do my best to change to cater for your input.

As usual, please remember the Great Disclaimer.

Great Disclaimer

Remember that nothing in this post or on this site is to be taken to be personal financial advice. It is general advice only, and investors must use it as a basis for financial decisions. Personal financial advice can only be provided after appropriate investigation into your financial position, expectations, risk profile, capacity, service expectations and such advice would be provided in writing.

These posts are simply my musings and thoughts on all things financial. They are not intended to be a basis for financial decision making. They are simply me sharing some ideas of a financial planner sitting in his office in East Perth, Western Australia, and pondering the word  of money.



Leave a Reply