PORTFOLIO POINT: The decision to increase one’s equity exposure at the moment depends on your risk appetite and if you believe Paul Keating’s prediction of an imminent euro split.
It’s the end of another financial year and it’s always a good time to review your investment strategies for the year to come.
For me, as you’d appreciate, the sale of our business means I have an additional reason to look hard at my investment strategies. I must say that my inclination is to be now aiming at lifting my equity content – probably in medium sized companies .
I’m in the fortunate situation of having a secure retirement savings level but also being contracted to work writing for Eureka and Business Spectator for the next three years. As I told readers at the Eureka Congresses, I love writing for Eureka because I am experiencing some of the same issues. In my personal affairs I followed the same advice I gave Eureka readers – set your equity percentage at a level where you are comfortable. And as you get older the 'level of comfort’ tends to require having an equity percentage at much lower levels than you do when you are younger. As it turned out, having a low level of equity was the right decision and I met many Eureka readers at the Congress who took the same path.
But my inclination is to see 2012-13 as a time to lift my equity percentage. The temptation is to make that move right now, particularly as you can see in the market a lot of liquidity sloshing around, which could push up share prices.
I might be wrong, but I am not going to lift my equity right at this time, however, even though the market may rise. Still ringing in my ears are the words of Paul Keating at the two Eureka Congresses. Paul set out a very convincing argument that there would have to be a break-up of the euro, as that was the only way around the problem. As I and others have been writing, a break-up of the euro means that there will be considerable damage to the global banking system and there is every likelihood that the stockmarket would fall in those circumstances.
And if I had any doubts, my fears were reinforced by the remarks of German Chancellor Angela Merkel on the eve of the latest European summit where she said words to the effect that Germany would underwrite European bonds without iron clad guarantees of behavior change by the southern European states “over my dead body”.
As Paul Keating so graphically explained, the austerity measures that have been introduced and which are required to be introduced into these countries are just so painful that they will simply cause too much social unrest.
The only way to achieve the objectives of the austerity program is to have a flexible currency and to take the reduction pain via the currency itself.
Keating reminded us that around a decade ago the Australian dollar was around 50 US cents and that reflected the difficult economic situation we were in at that time.
So while I want to use 2012-13 as a year to increase my equity exposure, I am going to punt that there is still a sell-off to come and that sell-off will take place when the euro splits, with quite a reasonable chance that split will take place within the 2012-13 year.
There is also another major concern--- on January 1, 2013, the new US President faces a series of blows including the US$1.2 trillion of spending cuts that Congress stipulated would kick in automatically because the committee charged with finding agreed spending cuts couldn’t agree. In addition there is the end of the Bush tax cuts; the expiration of the 2010-11 payroll tax cut; and the expiration of emergency unemployment benefits. The markets believe there will be a back-down, but the US economy is facing its biggest ever fiscal contraction. If implemented, this would send the US into recession in 2013. The impact of these two events on China and Australia would be severe.
These threats could evaporate. For example, if Merkel can be convinced to put a German guaranteed European bond into play then we will see a significant rise in the stockmarket. And the US presidential campaign could force a resolution to the American impasse. If that’s what happens, then I should have bought at this time.
Although Paul Keating was not one of our best prime ministers he was certainly one of our best treasurers, if not our best. I am going to base my equity strategy on his advice.
Then we come to the interest-bearing securities section of the portfolio. I had a fascinating session with some bankers this week where they explained to me that it was going to be absolutely vital to increase the amount of deposits banks have that are classed by the regulators as “sticky”. In other words, banks that have short-term deposits but do not have the transaction business of a client will find those deposits are not classed as “sticky” deposits. What banks really want is the transaction business of their clients, because then deposits will usually be regarded as “sticky”. Term deposits of three years and longer will also carry the “sticky” tag.
These new rules come into effect in 2015, so don’t currently apply, but already banks are seeking transaction business and later they are going to offer higher rates for deposits by those who couple their transaction business with deposits.
Similarly three and five-year deposit rates are going to be higher than they otherwise would be because of the way they will be classified after 2015.
Currently banks are playing roulette with deposit rates. To the extent that we put money aside for later equity investment, then short-term rates are fine.
But right now, while the long-term bank deposits preserve capital, the rates are below what I regard as satisfactory from a long-term investment point of view. Long-term interest bearing rates below 5% have me searching for other avenues. I am starting to explore the corporate bond market to see whether I can get returns of closer to 6% in that area. It seems that you can, although the top grade corporate bonds offer rates around the 5% and 5.5% mark.
Nevertheless, this is going to be an area I am going to concentrate on during the first two or three months of 2012-13 and I’ll keep you posted in terms of how I see it.
Finally, to underline the looming value of your transaction business let me relate an unusual experience I encountered this week. Our superannuation fund had a six figure three-year deposit with the Suncorp bank which matures on July 1. They did not want to renew all or part of that deposit unless I opened a transaction account. I was told that – almost as a l favour – it was possible to seek a special arrangement to avoid setting up a transaction account. Not surprisingly, I told them to 'jump’ and I will put the money in another place. Nevertheless this Suncorp action underlines the drive we are going to see from bankers to gain transaction business so deposits can be classed as “sticky”.
In my view there is danger in playing games with depositors because the name of the game remains getting interest-bearing deposits. If Paul Keating is right and the euro is to split, then overseas wholesale deposits that many banks rely on are simply not going to be available in the current quantity and the price. Banks will have to access self-managed and other superannuation funds to cover that gap.
I have been clearly influenced by the Eureka Congress and I must add that I really enjoyed meeting so many of those who attended.