MARKETS SPECTATOR: On the hunt for high yield

The Australian market retreated to its lowest point in six weeks today, albeit on low volumes following the Veterans Day holiday in the US, which saw very thin trade too as bond markets were closed and participants took a long weekend.

One of the big drivers recently has been the very strong performance of the banks, which make up a huge chunk of our index in terms of points. In fact, since the mid-year low on June 4, the XJO banks sub sector is up 16.67 per cent versus broader gains for the S&P/ASX 200 of 8.29 per cent.

With the big four banks making up such a large chunk of the index, their huge outperformance has pushed the market higher even though a lot of sectors have actually underperformed the benchmark 200, like materials for example.



Source: Iress

Today, the difference was broad-based profit taking. It's the first time for a while that all four of the big banks, as well as Macquarie Group have been hit by selling at the same time.

Sources suggest it has come from offshore and has been exaggerated by the lack of volume and real buying within the market.

Nonetheless, I remain of the view that it's more likely a correction than an underlying change in the trend for the sector. In fact, money has not just been flowing towards the banks, but more broadly towards stocks that pay a high, sustainable dividend, which definitely includes the big four banks.

Some of these stocks have had an incredible run. Just look at Commonwealth Bank for example, which has been up for the last seven straight weeks. Nothing can continue to go up forever without a bit of profit taking and this is what looks to be happening.

However, I have confidence in the underlying theme of high yield outperformance. Just have a look at the current yield of Australian Government three year bonds at around 2.55 per cent versus the Reserve Bank cash rate of 3.25 per cent. It's pointing one direction and one direction only; that rates are heading lower over the short to medium term.

As more and more people start to realise that rates on term deposits just aren't going to cut it, they're going to be forced into high yielding equities just to earn a return that they've become accustomed too.

Given Australia's aging population, the sector that is going to feel this the most is the self-funded retirees, who have been more than happy to earn a risk free 6.5 per cent return on their cash.

This only deals with the domestic cash flow too. As I've mentioned before, think about anyone wanting to earn a real return above inflation levels in Europe and the US. With their rates ‘so low for so long' they're being forced to cast the net far and wide in search of a real yield.

This could be a multi-year theme too. So far, we've seen some professional money flowing towards Australian high yielding assets. As more and more participants realise what's happening, it's only a matter of time before more and more mum and dad investors move towards the sustainable dividend idea.

Unfortunately, in this era of low interest rates they're not going to have much of a choice.