January 2013
UniSuper's Chief Investment Officer, John Pearce, provides a market update for UniSuper members.
| |
% Change |
| Month |
FYTD |
1 Year |
3 Years p.a. |
5 Years p.a. |
| Australian Shares (ASX 300) |
3.3 |
16.1 |
19.7 |
2.8 |
-1.8 |
| US Shares (S&P 500) |
0.9 |
6.0 |
16.0 |
10.9 |
1.7 |
| Asian Shares (MSCI Asia) |
3.0 |
11.5 |
16.5 |
3.0 |
-2.0 |
| Australian Dollar (AUD/USD) |
-0.5 |
1.3 |
1.3 |
4.9 |
3.4 |
| Australian Fixed Interest (UBSA Composite) |
0.2 |
2.2 |
7.7 |
8.3 |
8.3 |
| Cash (UBSA Bank Bill) |
0.3 |
1.8 |
4.0 |
4.5 |
4.9 |
Returns are for periods to 31 December 2012.
Past performance is not an indication of future performance.
The strength of the markets in 2012 has resulted in strong returns for UniSuper members who are in options with exposure to growth assets. For example, the Balanced option, which is the default option for members in our Accumulation 1 and Accumulation 2 products, has recorded a 14.9%* return for the year. This is a pleasing result in absolute terms, and also compares very favorably to our market peers. Visit our Options and Performance page for performance information on all options.
* This is an estimated return for the 2012 calendar year and is after fund taxes and investment expenses, but gross of account-based fees. Final returns will be available in late January 2013.
2012 Year in review
In hindsight, 2012 was obviously going to be a good year for growth assets in general, and equities in particular. Recollections of the economic commentary over the 2011 Christmas break are still quite vivid; almost without exception readers were warned of impending disaster. When the vast majority of ‘experts’ are pessimistic, it’s usually a great time to start loading up on equities.
2012 was going to be the year that Europe imploded. A Greek default was sure to set off a domino effect, quickly followed by the defaults of Portugal and Spain. Italy, despite being considered a core European country, would also crumble, as not even the might of Germany could save such a large country when the financial markets refused to refinance her debt. Of course, as the GFC demonstrated, the rest of the world would not have been spared the most serious consequences of a European split, and the global recession camp grew in numbers. In the eyes of the extreme pessimists, financial Armageddon was inevitable.
But the world didn’t end in 2012. As has been the case throughout history, human beings have a habit of creating a lot of mess, then cleaning it up, creating it again, and so on. The cycle of mess creation and cleanup is a sure thing; it’s only the magnitude that varies. In considering the key themes of the last year I think it’s best to think of the ways in which the world went about cleaning up its mess. Three themes come to mind, and they are all connected.
1. American and European central banks flooded their banking systems with liquidity.
Nothing sums up this point better than the fighting words of Mario Draghi, the chief of the European Central Bank (’ECB’), when he said: “…the ECB is ready to do whatever it takes to preserve the Euro, and believe me it will be enough”. In fact, Draghi was only playing catch up with his equivalent at the US Federal Reserve (‘Fed’), as Ben Bernanke was already doing whatever it took to flood the US banking system with liquidity.
In this context, ‘liquidity’ is effectively a technical term for cash. Put simply, the largest central banks in the world have entered the markets and bought bonds issued by banks, governments and even corporates. Buying bonds is the equivalent of lending cash. The scale of the buying operations has been staggering, and is reflected in the graph below, which shows the exponential increase in the size of the balance sheets of the ECB and Fed.
The injection of liquidity into the global banking system has arguably been the single biggest factor determining the direction of markets. It certainly helps explain why equity markets have rallied when the global economy is so sluggish, not to mention the various geo-political issues bubbling away.
The lesson is that economic and geo-political conditions often do not exhibit any correlation with the course of markets over short to medium terms. Demand and supply of money or credit, together with relative valuations, are often more powerful influences on markets than economic variables such as GDP growth and unemployment.
Notwithstanding the best efforts of the Fed and the ECB to inject funds into their respective economies, they can only work via the banks, and the efficacy of the process relies on the banks on-lending the funds. But if the banks are reluctant to lend, or households and corporates are reluctant to borrow, the ultimate impact of the central bank activities becomes muted. Unfortunately, this is effectively what has happened. This leads us to the second theme.
2. Corporates and households have been repairing their financial positions.
Rather than use cheap and plentiful funds to consume and invest, households and corporates have focused on reducing their debt levels (‘deleveraging’) and increasing their savings. The graph below shows the increase in the savings rate of Australian households. It is interesting to note that while Australians have largely been able to escape the harshest outcomes of the GFC, we have behaved just as cautiously in relation to our savings and spending patterns as Americans.
Generally speaking, in the aftermath of the GFC, the corporate sector was the first to clean up its mess and in fact most corporate sectors around the world are in robust shape (providing further support to credit and equity markets). Households have also been steadily repairing their financial positions and there are signs that in some countries (e.g. USA and Australia) that savings rates are stabilising. As a whole, the global banking system is also in much better shape, although a word of caution on this point. In many jurisdictions, notably European, the banks have simply transferred their mess to the government sector.
3. Excess liquidity and risk aversion have resulted in a search for yield.
A ‘flight to safety’ has been the common descriptor of market behaviour over the past few years , and this has morphed into the search for yield and quality. The flood of funds from central banks, reductions in official cash rates, and general risk aversion has resulted in a significant drop in bond yields around the world with the US Treasury market leading the way.
One of the great paradoxes in financial markets is the flight of capital to US Treasuries in times of global crisis, even if the source of the crisis happens to be the US. For example, when Moodys downgraded the sovereign debt rating of the US, the largest flow of capital went to the very instrument (US Treasuries) being downgraded! The market’s logic was that with the world’s only true reserve currency, the US Government will always be able to pay its bills (unless of course the US Congress is crazy enough to allow a default).
The rally in US Treasuries was generally followed by steep reductions in other sovereign bond yields around the world, including Australia’s. Just how low bond yields have been driven was the subject of the
CIO Market Update - September 2012. In the Netherlands, for example, yields are the lowest they have been since records started to be kept, 495 years ago.
As markets settled down throughout the course of the year, the search for yield extended beyond the paltry yields on offer in the government bond markets to the corporate and bank-backed bond markets. For example, in January 2012 Commonwealth Bank had to pay a margin of about 2.6% over the Australian Government Bond rate to borrow five-year secured funds. Today, the equivalent margin would be around 1.2%. Around the world, many corporates are now able to borrow new funds or refinance existing debt at historically low rates and many of them are indeed taking advantage of the situation.
| |
2012 return (%) |
| ASX 300 |
19.7 |
| ASX Small Companies |
6.6 |
| ASX Resources |
0.1 |
| UniSuper Equity Income Portfolio (*) |
28.3^ |
Past performance is not an indicator of future performance. Returns are for the 12 month period ended 31 December 2012.
(*) This is an internally managed portfolio which forms the basis for the Australian Equity Income Option, which has been available to members since April 2012.
^This is an estimated return for the 2012 calendar year and is before taxes and after investment expenses. The final return will be available in late January 2013.
The search for yield has not been confined to the bond market. Profitable companies with strong balance sheets and a commitment to paying dividends were highly sought after. They are attractive to share investors, who are still nervous about the global economy and want to avoid higher risk equities, and are also attractive to people who require a return above the level on offer in the cash and bond markets.
A look at the different performances of various sectors (as per the table above) in the Australian market provides a good example of the dynamic we are talking about. At UniSuper, we have been managing a high yielding equity portfolio since November 2011. This portfolio was offered as a separate
Australian Equity Income option to members in April 2012.
The table above shows the extent to which the Equity Income portfolio, driven by the likes of Telstra (+41.94%), Westpac (+39.54%), Sydney Airport (+35.91%), GPT (+26.94%) and the like has outperformed the broader market. The asset composition of the Defined Benefit Division (DBD) is heavily weighted in these types of stocks, which underpinned a very strong total return of
17.2%* for the
DBD portfolio.
* This is an estimated return for the 2012 calendar year and is after fund taxes and investment expenses, but gross of account-based fees. Final returns will be available in late January 2013.
Wherever you are, this is your chance to hear firsthand from UniSuper’s Chief Investment Officer John Pearce about the latest developments in local and global investment markets as well as the performance of UniSuper’s investment options to date.
John will also share his views about the investment outlook for 2013 and give you some valuable insights on the factors that will be significant to driving growth over the next twelve months.
Register here.
2013
What’s in store for 2013 is anybody’s guess. The next CIO Market Update will include a discussion on expectations for 2013 and major portfolio positions we are running with at UniSuper. However, unless something drastic happens between now and the next Update, we are likely to be re-iterating the point made frequently over the past year or so: given current valuations, we are confident that equities will outperform bonds over the medium term.
Another point worth mentioning is that the current expert economic commentary, on balance, remains quite bearish – that’s probably a good sign for equities.
Past performance is not an indicator of future performance. This information is of a general nature only and may include general advice. It has been prepared without taking into account your individual objectives, financial situation or needs. UniSuper’s investment strategies will not necessarily be appropriate for other investors. Before making any decision in relation to your UniSuper membership, you should consider your personal circumstances, the relevant product disclosure statement for your membership category and whether to consult a licensed financial adviser. This information is current as at 4 January 2013.
This is not intended to be an endorsement of any of the listed securities named above for inclusion in personal portfolios. The above material reflects UniSuper’s view at a particular point in time having regard to factors specific to UniSuper and its overall investment objectives and strategies.