The status quo of investing
At the beginning of 2016, markets rolled in fear of the US Federal Reserve (Fed) tightening aggressively with a forecast of four rate rises in 2016. This was compounded by concerns about China imploding with the yuan devaluing, and the continued collapse of commodity prices. But now, as we reflect on quarter one, the Fed has moderated its anticipated rate rise path (now projecting two rises in 2016), China has muddled on with its currency intact (at least to date) – a beneficiary of weakness in the USD, and commodities prices have staged a recovery.
So is the horizon looking a little brighter?
Things do appear to be a little rosier than they did – markets have bounced and fears of a US recession seem to have receded. But, to us, the world remains in a less than ideal state. Global growth has been downgraded again – this time by the Organisation for Economic Co-operation and Development (OECD). Politics and geopolitics also add to our uncertainty, led by US presidential nominations and talk of a British exit from Europe, and overall there is increasing realisation that the central banks have little control. Inflation—the great hope of deeply indebted governments—stubbornly remains deflated.
How sustainable is our dollar in this market?
The Aussie dollar has strengthened since the middle of January – another beneficiary of a weakening US dollar and, more recently, optimism on commodity prices. In fact, the dollar's strength is strongly influencing the likely path of Australian interest rates – any higher and the Reserve Bank of Australia (RBA) is more likely to ease again, back down and we are likely to remain on hold.
In addition, as excess supply remains in key commodity markets, the recent appreciation in the Aussie dollar appears to be more a function of speculative short term bets (as opposed to ‘buy and hold’ investments), which could quickly reverse as profits are taken. While the recent recovery has no doubt breathed air into struggling junior resources companies, a short-lived recovery only delays their exit from the market—which would complete the current cycle and allow the supply glut to close—at which point fundamentals may start turning for the better.
How crucial is the Fed’s next move?
While the US economy is showing reasonable strength, the Fed has moderated its rate rise path in recognition of the relatively poor state of the rest of the world, the increased interconnectedness of the US economy, and a broad recognition that an excessive USD appreciation helps no one. Forward earnings forecasts in the US are also falling.
What does this mean for Australian investors?
Valuations overall are still not cheap. While we continue to search for pockets of value (and they do exist, albeit harder to find), we resist simply "buying on dips". We remain comfortable holding cash despite low interest rates; and when an opportunity to buy an asset arises we are more tempted to sell selected assets than to dip into the cash pile on the basis we feel we will have better use for it in due course.
This insight may contain general financial advice and was prepared without taking into account your objectives, financial situation or needs. Before acting on any advice, you should consider whether the advice is appropriate to you. Seeking professional personal advice is always highly recommended. Any forward looking statements are based on current expectations at the time of writing. No assurance can be given that such expectations will prove to be correct.