Are World Markets Too High?
On the one hand, much of the world has yet to fully recover from the 2009 GFC, so there is potential for a lot more global economic growth. People in China and India are clamouring to join the ranks of the middle class, bringing with them a big demand for goods and services from around the world.
Oil - Good news for all
The Brits have just found huge oil reserves near Gatwick airport, reportedly as big as all the oil fields in Libya and Nigeria. Even if the field is not put in production for a while, or only produces 10% of the whole oil field, it will help hold down the price of oil.
This is good news for all of us. Lower energy costs are just what the world economy needs as it recovers from the 2009 GFC.
The NZ dollar – the RBNZ is losing
The world is still groaning under the after effects of the 2009 GFC. Most countries want to grow their exports, and one way is to keep their currencies as low as possible.
Lowering of interest rates, to “repel” inward money, is a growing trend around the world. However the Reserve Bank of NZ (RBNZ) is just so slow to lower our interest rates. A high NZ$, especially against our biggest trading partner Australia, will have a negative impact on the NZ economy. In the end the stubbornness of the RBNZ will hurt NZ.
(Stop press – they just hinted they might lower rates– and the NZ$ immediately eased - whew, at last!!).
NZ Super fund loses $200 million
The NZ super fund just lost $200 million by investing in a Portuguese bank, a classic junk bond. Junk bonds and some syndicated properties may pay a higher yield but the risk is higher too.
Higher yield means higher risk – no free ride in this game. Search for quality and, if you have to, accept a lower yield too. Then if things get tough, you won’t sweat much. In the long run, no one ever regretted buying quality.
So what can we expect?
In any 6 to 7 year period there are usually 2 good years, 3 to 4 average years and 18 bad months.
I would expect this trend to continue - but this is not an exact science - so expect the time intervals it to vary quite a bit.
High markets – you can take action on several fronts Only buy quality bonds. Only buy quality share funds too – e.g. the DFA funds that we like filter out a lot of shares for lots of good reasons, and do the same with their property funds.
Diversification is key – the portfolios we build hold over 500 bonds, 250 property companies, and 5,000 shares.
Tighten up on rebalancing tolerances
Let’s assume a balanced portfolio is 50% bonds and 50% shares. The share market rises and soon it is 45% bonds and 55% shares. It is common to let it run to a tolerance of 5% over the desired percentage.
But now that markets are high, it would be wise to tighten up and only go to a 2.5% tolerance before switching the profit to bonds, or to cash if you need income.
NB if markets fall you should do the opposite, in effect buying more shares cheaper (on market weakness).
Don’t try to forecast
In 2013 bonds averaged 1%, NZ shares 15%, global shares 30%, and global property 0%
In 2014 bonds averaged 8%, NZ shares 16%, global shares 9.5%, and global property 28%.
I doubt anyone could have predicted these returns, but diversifying across them all has worked well.
If you are really nervous, you can change your risk profile down one step. e.g. if you are balanced, you could choose to go down to conservative to balanced (reduce shares).
If in doubt, do half – apply this rule to all transactions
This is one of the best rules I know, and I use it daily.
You can apply this to investing, buying or selling just about anything - bonds, multiple rental properties, and shares.
Supplied by Alan Clarke, AFA 26532, financial & retirement adviser, & author.
His second book “The Great NZ Work, Money & Retirement Puzzle” is now available.