Summary of key points
- There has been little net change in financial markets since our last update but a number of factors have emerged that call for more caution in investment strategy.
- The caution should be expressed in terms of lower holdings in equities and property securities and a higher weighting to cash.
- The cash can then be redeployed into growth assets after any significant pull back that emerges over the next 6 to 12 months.
- The risk factors that have emerged include:
– China: The continued surge in credit and lending which is now being reined in selectively by provincial governments which are imposing limits on property purchases.
– USA: The uncertainty in the election result, which ebbs and flows (although it is flowing towards Clinton this week). In addition the projected earnings per share growth of major companies is set to slow from +9.3% p.a. to +5.5% p.a. putting the record level of share prices under pressure. The record level of US profits as a proportion of GDP looks difficult to sustain.
– Europe: Growing market concerns about the strength of some “globally systemically important financial institutions” such as Deutsche Bank and Unicredit, the biggest banks in Germany and Italy respectively
– Japan: There is growing dissension within the Bank of Japan regarding the conduct of monetary policy, which has now been acknowledged as being at its limit of effectiveness.
– More broadly, virtually all central banks have run out of options for stimulating their economies further and as yet governments have not shown any capacity to fill the gap with more fiscal stimulus.
– Governing parties worldwide are subjected to populist pressures that constrain their policies. Political survival trumps effective policy
- These factors together with our updated valuation analysis lead us to recommend an underweighting in international equities as well as the property securities, materials and energy sectors of the Australian equity market, with a build up of strategic cash holdings for the next few months, awaiting reinvestment at better prices.