Interest Rates – still heading down?
Over the past year interest rates have continued to fall to record lows all over the world. Slow economic growth in many countries has led Central Banks to continue their (relatively unsuccessful) attempts to stimulate growth by reducing official interest rates and buying bonds. Even lower rates are quite possible in coming months everywhere but in the USA but I believe the scope for even lower rates is quite limited. It is startling to realise that much of the world now has negative interest rates for periods as long as 10 years and even longer in a few countries. There is a growing acceptance that extremely low interest rates are not only ineffective at stimulating growth but also are distorting asset prices i.e. pushing up the price of assets like real estate and infrastructure beyond what the fundamentals suggest is sensible.
The President of the US Federal Reserve, Janet Yellen, recently said that “the case for an increase in the federal funds rate (currently 0.5%) has strengthened in recent months” so a US “rate hike” seems likely either in September or perhaps after the November presidential election. Should US employment growth remain steady a further increase of 0.25% to take the fed funds rate to 1.0% before year end or early in 2017 is quite possible. This is already leading to a strengthening US Dollar so there is a limit to how far the Fed can raise rates without risking the US economic recovery. My view is that two 0.25% rate hikes is the most they are likely to do in the next 6-12 months. Clearly the market doesn’t expect the Fed will go too far as the US 2 Year bond rate is around 0.85% and the 10 Year bond rate remains close to 1.6%, only slightly above the July low of 1.3%, and the 30 Year bond rate is currently 2.3%.
In Australia, our Reserve Bank last lowered the cash rate on 2 August to 1.5% and our longer rates have continued to trend down with the Government 10 year bond rate now at around 1.85% so clearly the market sees little likelihood of rate increases and some chance of even further cuts to the cash rate. This is why it is very difficult to find term deposit rates above 3.0% with a few isolated exceptions. If a US Fed rate hike leads to a lower AUD then the likelihood of a further cut in our cash rate is reduced but a further cut or two is possible if the economy weakens.
Changes to Superannuation Rules – should you be doing anything now?
The recently re-elected LNP Government announced a number of proposed changes to Superannuation in the May 2016 Budget and many are wondering whether there is anything they should be doing now as a result of those announcements. In most instances the answer is no, particularly given we don’t know exactly what changes will eventually be legislated. Negotiations on several of the proposed measures are still occurring so unless you are contemplating doing something significant in the short term, it’s best to wait and see what laws get passed and then we will be able to make whatever adjustments are appropriate to your circumstances.
Ten Attributes of Great Investors
Michael Mauboussin, a US financial strategist, teacher and author, recently listed what he considers to be the 10 attributes of great fundamental investors. While his focus has primarily been on companies listed on the stock exchange, I think these attributes have broad applicability. To understand exactly what he is saying you would benefit from reading the full article, available here, but I have put very brief explanations in italics as to what I think he is getting at.
These are his 10 attributes:
- Be numerate (and understand accounting). You need to be comfortable with numbers and understand concepts like free cash flow.
- Understand value (the present value of free cash flow). The value of an asset, be it a share, property, bond or a business, is the present value of all future free cash flows.
- Properly assess strategy (or how a business makes money). You need to know how a company makes its money and what sustainable competitive advantage it has, if any.
- Compare effectively (expectations versus fundamentals). Fundamentals capture likely future financial performance of an investment whereas expectations are what’s implied by the current price which may be divorced from fundamentals.
- Think probabilistically (there are few sure things). What matters is how much you make when you are right (the probability of gain times the amount of the possible gain) versus how much you lose when you are wrong.
- Update your views effectively (beliefs are hypotheses to be tested, not treasures to be protected). Be actively open-minded and seek information or views that are different to your own and be willing to change your view or belief when new information suggests you should.
- Beware of behavioural biases (minimising constraints to good thinking). The ability to make good decisions is more important than raw intelligence and to do this you need to be aware of and manage your behavioural biases such as availability – relying on information that is available rather than relevant.
- Know the difference between information and influence. Most investors are strongly influenced by other people and going against the crowd is difficult so remember the price of an asset maybe divorced from true value as people jump on the bandwagon.
- Position sizing (maximizing the payoff from edge). A bit like #5 in that you should not weight all investments equally but give more weight – position sizing – to your best opportunities.
- Read (and keep an open mind). Read widely and across a wide spectrum of disciplines and read material you don’t necessarily agree with to challenge your thinking and to help identify good ideas.
Update on Ruby
In last month’s newsletter I mentioned that we had acquired a new dog recently and, to my surprise, quite a few people sent me very positive comments. For those who are interested, attached is a more recent photo of Ruby playing at the local dog park. I won’t be providing monthly updates but thanks for your kind feedback.
This newsletter contains general advice. It does not take into account your individual objectives, financial situation or needs. You should consider talking to a financial adviser before making a financial decision.