Summary: The coalition does not understand the extent that superannuation changes are capturing media audiences' attention, while we should keep in mind that Bill Shorten may well be tempted to place a levy on banks if elected.
Key take-out: With the low interest environment here to stay, now is not the time to hold cash in hopes of a future rate rise.
Key beneficiaries: General investors. Category: Australian economy.
When I watched the TV debate between Malcolm Turnbull and Bill Shorten two shivers went up my spine. Today I also want to write about interest rates because I think we are starting to get a clearer picture of what is likely to be ahead in the next six months or so.
We have a close election and I emphasise that I am not in the business of forecasting who is going to win.
In the debate Malcolm Turnbull undertook that there would be no more changes to superannuation just as Tony Abbott had done in the 2013 election campaign. That was no cause for shivers but it did underline that politicians’ promises don’t have great standing.
Super in the spotlight
My first shiver came when Malcolm Turnbull said the changes that the government made to superannuation were “not retrospective”. Everyone in Australia knows that such a statement is at best political double talk because any legislation that is backdated to 2007 is clearly retrospective.
Now let me share a secret with you. What Malcolm does not know is that in the digital media any articles on superannuation are “rating their socks off”. That means that superannuation is the hottest topic in the election and the Coalition is being hammered. Given the enormous readership that comes with any superannuation comments, all forms of media are going to keep mentioning the issue. That adds an extra dimension to my second shiver during the debate.
I became alarmed at the continual references by Bill Shorten to the profits of banks and the fact that Malcolm Turnbull plans to reduce company tax on large corporations should he be re-elected in 2016.
Bill Shorten made it very clear that he would do everything in his power to oppose any reduction in the company tax rate as it applied to large corporations like banks. This constant reference to bank profits sent that second shiver down my spine because many Australians have reduced the impact of lower interest rates on their income by investing in bank and other high yielding shares.
In fact a reduction in the profits tax on banks doesn’t have a great effect on Australian share-holders because the banks pass on most of their profits in the way of franked dividends and it simply means that the franking credits are worth less than they currently are so it is close to a nil all draw. The big beneficiaries are overseas corporations that don’t gain the benefits of franking credits. Shorten picked up on this.
On the surface that was not a cause for alarm but we are headed into a parliament where independent and minor parties like the Greens are going to have a big increase in power. If Bill Shorten becomes prime minister (remember I am not making predictions) then he will do deals with the Greens to get his legislation through the parliament.
A key policy stance of the Greens is that there should be a 0.2 per cent turnover tax on banks. The Greens are looking to raise between $1.9 billion and $3.7bn dollars a year, which is the amount that treasury says represents the value of the bank guarantee of the deposits of the big four Australian banks.
Bill Shorten would deny any intention to impose a levy on banks but as we have seen from both the previous ALP government and the Coalition, promises made in election campaigns are not always treated seriously. It will be very tempting for Bill Shorten to raise money via a bank levy given his big spending agenda. Accordingly, if Bill Shorten become Prime Minister after the July 2 election it will make sense for security conscious investors to lighten their bank share exposure particularly as the proposed Royal Commission into banks will discover a lot of “scandals” that a Labor government will be able to use to justify the levy.
And by the way, if the Coalition were to abandon retrospective measures for tax paid contributions to super back to 2007, it could actually hammer the ALP because the Coalition proposals are actually better for superannuates.
Will lower rates actually help the economy?
Now to interest rates. Last Friday a graph caught my eye in the Sydney Morning Herald, which I publish below:
Here we see that if we go back into the past, Australian interest rates and those of Europe and Japan were similar for most of the last two decades. But in the last two years the difference has become stark. As you can see Japan and Europe are at negative rates for debt currencies going up to around eight years and even after that there is only a small positive rate. We currently have an Australian economy, which is underperforming on the local side, but this is being offset by exports.
I am not sure that lower interests rates will actually stimulate the Australian economy except that they will lower the Australian dollar and that will further enhance our exports and increase the cost of some imports, perhaps leading to greater local sourcing. This particularly applies to the tourist sector. I think it is very likely that Australia will lower its interest rates in the next six months reflecting that lower inflation and depressed local economy. Conversely the prospects of higher American interest rates are increasing.
I have been saying for some time that interest rates are going to be restrained and part of your interest-bearing portfolio should have longer-term securities. That proved to be good advice but it is worth repeating. Those that have their investments in piles of cash in Australian dollars – where there is not an intention to make a major investment – look likely to perform badly. There is the possibility that the problems in China and local apartments might spill over into an Australian downturn, which will lower the value of shares so enhance the value of cash. Holding some cash for that possible eventuality might be right or wrong but it is a strategy that many people will feel comfortable with.
However simply holding cash with the hope that interest rates will rise down the track – which is a prevalent strategy with many investors – looks like being a wrong strategy for the next two or three years.
We are starting to see Australian companies that borrowed at high interest rates taking the opportunity to redeem those borrowings where the trust deeds carry such rights. And so Fortescue has bought back high cost bonds and more recently BlueScope has done the same thing. Both actions will increase the profitability of the companies. If you are holding higher interest rate corporate bonds it is worth checking the trust deeds and see if the company has a right of earlier repayment.