A View From The Top End

The Bear Comes Out of Hibernation

Share markets since January of this year have entered bear market territory (>20% decline) in a combined reaction to rising inflation and expected interest rate responses, supply chain disruptions and energy price shocks that have been exacerbated by the war in Ukraine and an uneven move to reduce carbon intensity. No new capital investment in traditional energy markets can make them very cranky when shocked.

All sectors except oil and certain soft commodities have been impacted, with technology feeling the brunt of the falls. Inevitable talk of recession is now dominating media snippets and will continue to be a staple part of the narrative well past the recovery. Even if there is a recession brought on by central bankers trying to snuff out rising inflation, the economy is not the market.

Our portfolio positioning will not be immune, but as we have outlined since last year, we have expected and prepared for higher inflation for some time now.

Our Portfolios

Portfolio positions in property and infrastructure benefit from higher inflation on their income streams and have appropriate hedging strategies in place for their underlying debt. These real asset strategies will benefit once the market noise subsides.

Equally, we have had zero exposure to fixed rate bonds which are showing double digit losses as interest rates rise - instead preferring bank floating rate securities, which benefit from interest rate movements.

Commodity positioning also forms part of the portfolio mix, particularly with exposures in battery materials that will form a key component of the decarbonisation transition over the next decade.

Finally, equity positioning remains part of the portfolio. Corporate balance sheets are strong with excessive cash on balance sheets. Corporates will use share price declines to either buy-back shares (improving earnings per share) or paying out dividends to shareholders. The creative destruction that started with the pandemic will also continue apace - capital investment will continue to be strong which will improve labour productivity in the economy. Demographics, energy mix changes and the prospect of a higher taxation environment in the future demand this and companies benefiting from this spend (both the recipients and those spending the money) will continue to be the ones to hold.

What About Australia?

In Australia, we are likely to see the return of the two or three speed economy, but broadly this is Australia’s decade.

Short term (6-12months) we expect residential property to decline from its highs and interest rate increases will accelerate this. Moderate unemployment and a return of net migration post pandemic should limit the decline to 10-15% after the enormous rise of the last few years.

Commodity prices for our resource rich nation, particularly those exposed to decarbonisation and energy mix (e.g.: battery materials and LNG) will underpin Australia’s performance for much of the next decade.

Neutral rate for the RBA is expected to be 2.0% to 2.5%. We are at a cash rate of 0.85% currently. Markets typically run ahead of the RBA rises and they are walking the tight rope for a soft landing at the moment.

There are still bumps ahead, but we still like what the Australian economy has to offer.

Regards,