Portfolio Update 21 September 2023

Market performance for the month of September to date has been fairly subdued in most regions and investors have continued to grapple with whether, despite recent pauses by the US Federal Reserve and our Reserve Bank, further interest rate rises are in store.

Both Australia and the US’s jobs markets have shown resilience in the face of rate rises, leading to optimism that both economies can avoid a recession.  However there are still concerns with China, where the liquidity crisis that has gripped the real estate sector has spread and is now weighing on manufacturing and exports, while analysts are concerned that global investment companies may be exposed to these real estate debts and this could pose a risk to global financial markets.  And high oil prices (which we will go into later) threaten both Australia and the US’ task of getting inflation down to their targets.

Global Shares

Share markets have had a mixed performance over the year to date, as can been seen by the chart below:

Chart- Major Global Share Index Returns – Year to Date to 20 September 2023

Dark Blue = S&PASX200 (Australia).          Return – 3.87%

Pink = FTSE 100 (UK).                                     Return – 1.60%

Purple = S&P500 (Broad US).                      Return +11.04%

Light Blue = NASDAQ (US Tech).                 Return + 20.89%

Orange = Nikkei 225 (Japan).                       Return + 23.59%

The chart (and the return figures) show just how differently global markets can behave at different times.  Research shows that most “mum and dad” investors have a heavy home bias, meaning for Australian investors they are overweight Australian shares at the expense of other countries.  Those people would have suffered poor returns for the year to date compared to those who have diversified into other regions.

With the Australian sharemarket making up only around 2% of the global market, our model portfolios have a significantly higher weighting to international shares than to Australia, to take advantage of opportunities that simply aren’t available in Australia.

Defensive Assets

Bonds are offering more attractive returns now than they have for a number of years, with interest rates expected to remain higher for a while longer.  The sharp run-up in rates over 2022 and into 2023 saw fixed interest values fall dramatically, but now rates have stabilized we are seeing some attractive returns on offer.

As an example, the fixed income investments held in our model portfolios- the Realm High Income Fund and the Arculus Preferred Income Fund, at 31 August 2022 had yield to maturities of 7.97% and 8.12% respectively (yield to maturity is the estimated total return if the bonds in the portfolios are held to maturity).

We are also seeing term deposit rates come down slightly, with rates offered by most banks higher for a 12 month term than they are for longer terms, reflecting expectations that interest rates are near the top of the current cycle and will start to come down (perhaps from next year) over time.

US Inflation and Interest Rates

Having raised interest rates by more than five percentage points over the past 18 months, the US Federal Reserve has held rates steady since the last increase on July 26, 2023.  However, risks remain and the Fed has kept the door open for a further rise later this year, whilst indicating that rates will remain higher for longer, potentially pushing out the timing of rate cuts until later next year.  In August, consumer prices rose by 0.6%, the highest increase in over a year with higher gasoline costs accounting for more than half of the increase.

Rising oil prices present a potential thorn in the Federal Reserve’s side as it attempts to guide the US economy into a soft landing.  History shows that the US recessions in the mid 1970s and early 1980s and 1990s were impacted by surging energy costs which drove up inflation and reduce consumers’ purchasing power.

Since June, oil prices have surged by more than 30%, driven largely by cutbacks in supply by Russia and Saudi Arabia and they pose a risk as the Federal Reserve tries to get inflation back to its 2% target without causing a recession. 

Chart- West Texas Intermediate Crude Oil Futures – 6 months to 19 September 2023

While optimism has increased that the Federal Reserve can engineer a soft landing (i.e. avoid a recession), it remains a case of watch this space.  It is a similar scenario here in Australia, with the latest Reserve Bank minutes noting the challenge that high oil prices present in getting inflation back to their 2% to 3% target.

Collins House Model Portfolios

The Investment Committee have not made any changes to the investments in the Collins House Model portfolios since our last update.  The portfolios remain well diversified between different assets classes, different geographic regions and between small and larger cap shares.  We have also maintained exposure to alternatives such as gold, silver and infrastructure.   As ever we monitor all investments and global market conditions closely but at this stage see no reason to make any changes.  If and when we do, we will communicate these with you. If you have any questions, or you wish to review your tolerance to risk, please speak to your Financial Advisor