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Good economy. Stock market falls. Why is it so?

Investments  |  6/02/2018  |   3 min read

The US recently received some good economic news. Employment and wages are rising reflecting strength in the nation’s and the world’s largest economy. Despite this, international equity and bond markets have taken a hit, albeit not yet the ‘bloodbath’ or ‘rout’ that some media headline writers have screamed at us.

To the casual observer, this makes no sense. Don’t companies do well in strong economies?

Yes, they do. But strong economies can create inflation, or increases in the costs of goods and services. If inflation reaches what central bankers consider an unhealthy level, central bankers like the US Federal Reserve and the Reserve Bank of Australia, have one important tool for bring it back under control – interest rates.

So the good news for the US economy has driven concerns about the potential for the US Federal Reserve to increase rates. Australia’s economic outlook is positive, but it is not as likely to fuel inflation and significant interest rate rises as growth is not as strong as in the US.

Many professional investors, including the investments specialists at Equip, have been expecting investment markets to retrace part of their gains for some time. Since the election of US President Donald Trump with his promises of tax cuts, global markets have risen dramatically and fund members with equity investments have done exceptionally well.

But in many instances, equity prices have galloped ahead of the underlying value of the operating businesses, so professional investors have been expecting a correction that will better align equity, or share prices with company performance, profitability and outlook.

You might ask, what about switching to more conservative assets, like bonds? Even these so-called conservative assets have been falling in tandem with equities over the past few days. Interest-bearing bonds behave almost counter-intuitively, depreciating in value as interest rates rise. So the potential upward movement of interest rates initially hit bond markets, although they recovered a tick as equities continued their decline on 5 February.

What this shows is the dynamics of investment markets, asset classes and economic trends are intertwined. Thanks to technology, money also moves quickly both domestically and internationally, making trying to pick and, in particular, time changes in markets virtually impossible.

The question for investors, including super fund members, is:  what happens next? Do I hold my position or twist? How much further could markets fall? When will they start to rise again? The truth is that no one can answer these questions with certainty.

At Equip our investments are thoroughly researched by our internal and external investment managers. At times like this we focus on the fundamentals within our investment portfolio and remain confident in the quality of the research we did when we first invested in the companies you hold. We invest in companies that are strong and that we believe will deliver sustainable capital gain and/or dividend income for the long term.

The Australian Financial Review published an article on 2 February 2018 entitled What we can learn from the extended run of great superannuation fund returns (note an AFR subscription is required for access to this article). In the context of the last few days on investment markets, this was a timely reminder of the importance of setting an investment strategy that takes a long-term view.

Equip was in the top 10 of all Australian superannuation funds for investment returns over the 10 years to 31 December 2017, returning an annualised 6.2% on its Balanced Growth option after fees and taxes. Not spectacular you say? Well consider this. This return included the Global Financial Crisis (GFC) in 2008-09. The 5-year result was 10.4%, which is good by anyone’s measure, taking into account Equip’s focus on risk-managed investments.

Equip’s investment specialists and others, like AMP Capital’s economist Shane Oliver*, are anticipating extra volatility in markets for the remainder of 2018 with lower, but not necessarily negative overall returns. It is a natural transition back to something more normal from the benign and high-growth markets of the past few years.

Your view of the market will be influenced by your lifestage. If you’re young with a long way to go before you retire, you have plenty of time to ride the cycle of investment markets. If you’re older and especially if you’re on the cusp of retirement, your next steps will be influenced by your opinion of whether markets will fall further, plateau or recover. 

As a fund member, you can contact us at any time to discuss any concerns you have about your investment strategy. If you’re approaching retirement and want to discuss options for de-risking your investment portfolio, now might be the time to contact an Equip financial planner on 1800 065 753.

 

* AMP Capital website:Correction time for shares?’  by Shane Oliver. 5 February 2018.

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