“HOUSE OF CARDS” – RADIOHEAD, 2007
Australia has the nickname the “Lucky Country”. It refers to Australia’s natural resources, weather, history, geographical location, but it also deserves its name for its recent history of prosperity. The country’s current period of expansion is nearing its 30-year mark and is now the longest in modern history. However, all good things must come to an end! This is evidenced by some disturbing trends over the past year and a half that we discuss below. Within the next two weeks, we will have more visibility on how the central bank and the newly elected governing party will try to stop the current negative growth trajectory.
The consistent expansion in Australia in recent history seems like an economic miracle. Despite many economists seeing recessions as inevitable in response to the 1997 Asian crisis, the 2000-2003 tech wreck, the GFC and the “end” of the mining boom, the Australian economy has managed to escape all of these globally synchronised declines. This has been thanks to a combination of economic reforms in the 1980s and 1990s, sound banking regulation, and bold policy responses. Robust growth in immigration, especially with its focus on skilled labour, helped the Australian economy to adjust to a rapid increase in demand for its mineral resources. Trade between China and Australia alone increased tenfold in the 2000s with China investing heavily in Australia.
The Australian economy has had 28 years to build up imbalances and the magnitude of these will come to light during the next crisis. Housing prices rose strongly during the late 1990s to early 2000s and between 2012 and 2017. These massive increases in real estate prices coincide with record low wage growth, record low interest rates, and record household debt, which now equals 130% of GDP. This clearly unsustainable rise ended in 2017 and since then the market had seen its 19th consecutive month of national price declines. The most recent housing data does not provide any evidence that the bottom in prices is nearing. Building approvals year-on-year are currently down 27.3% and have been negative for nine consecutive months. Auction clearance rates, a leading indicator for annual property price movements, fell from 80% in 2017 to below 50% in April 2019 indicating low auction interest, implying a buyer’s market. Additionally, there are many other factors supporting the case for lower real estate prices:
- Prices are still too high for the average worker. House prices have risen much faster than wages and affordability has been constantly shrinking.
- Consumer sentiment has soured as prices started falling and the magic of quick and easy wealth is gone.
- Foreign buyer activity has collapsed because China’s capital controls have started to click in.
- Household debt is excessive and the value of real estate collateral has been falling in price. The ratio of household debt to disposable income hit a new record of around 190%, among the highest in the world.
- Banks have tightened credit conditions after reports of problems in terms of quality of mortgages and the Reserve Bank of Australia (RBA) warned that the major banks risked amplifying the slump if they all pulled back credit at the same time.
- The ever-rising prices created a construction boom and the massive supply is coming with a lag to the market.
The entire economy is massively geared towards the real estate sector (two thirds of the country’s net household wealth is invested in real estates). Rising house prices created an enormous wealth effect, which has fed consumption. The government bodies are aware of the consequences of lower housing prices for the overall economy, however many investors are still in a state of denial. After the weak inflation figure for Q1 was released, the Australian stock market rose about 1 percent to an 11-year high despite having a massive weight of 32% in financials. Bad news is still good news! Equity investors are now hoping for more monetary and fiscal stimulus and a weakening of the Aussie Dollar.
During the last decade, shorting Australian banks became an infamous high conviction trade in the hedge fund industry. The money managers were highly convinced that a slowing domestic economy conjoined with a China slowdown would be the trigger for the house of cards to collapse and thus bring the financial industry the same pain and losses experienced by their European and American peers. However, the more conservative business model and the timing of the short trade became their undoing. The big four banks– National Australia Bank, Westpac Bank, ANZ, and Commonwealth – pay huge dividends and waiting for the day of reckoning has proved very expensive.
Our Australia Nowcasters highlight the fact that the economy is showing plenty of signs of weakness other than the very low inflation. GDP has sagged alarmingly, business investment as a share of GDP is at a 25-year low, but many investors are waiting for evidence that the slowdown is starting to feed through into the jobs market. Currently the market is focusing on the low unemployment rate of 5%: the lowest it has been in five years. However, the unemployment rate does not tell the full story. A worker only needs to be in paid work for as little as one hour a week to be considered employed. Contrary to the unemployment rate, the rate of underemployment has risen constantly and now sits at 8.2 per cent. Consumer confidence has been low and that does not bode well for a country where 60% of GDP comes from consumer spending.
We currently see three risks to our view. First, demand for exports could improve in response to China’s aggressive stimulus measures. Second, the election outcome in two weeks (18th May) is likely to result in a combination of tax cuts and increased spending under the Labor party. Third, the RBA is likely to cut interest rates twice this year to stimulate the economy and to support the real estate market. Each of these possibilities could result in a rosier view for the Australian economy than we currently hold.
Our team believes that Australian bonds will continue to outperform global bonds while the stock market, and especially banking stocks, will underperform their peers. Shorting the Aussie dollar might prove to be a very effective defensive strategy. Historically, such an exposure offered a very reliable and asymmetric hedge for equity market declines. Unlike a short bank trade, the short AUD/USD provides a positive carry and hence gives investors plenty of time for the day of reckoning to arrive.
House of Cards
Our medium-term views remain cautious, and we are pairing an overweight in government bonds with an underweight in high yield corporate credit. We are also complementing our equity exposure with options to protect the portfolio in the case of equity drawdowns.
So far in May, the Multi Asset Risk Targeted Strategy was down -0.16% versus 0.03% for the MSCI AC World index and -0.04% for the Barclays Global Aggregate (USD hedged). Year-to-date, the Multi Asset Risk Targeted Strategy has returned 5.22% versus 16% for the MSCI AC World index, while the Barclays Global Aggregate (USD hedged) index is up 3.01%.
* The Multi Asset Risk Targeted Strategy performance is shown in USD net of fees for the representative account of the Multi Asset Risk Targeted (Medium) USD Composite and reflects the deduction of advisory fees and brokerage commission and the reinvestment of all dividends and earnings. Past performance is not indicative of future performance. This information is presented as supplemental information only and complements the GIPS compliant presentation provided on the following page.
World Growth Nowcaster
World Inflation Nowcaster
Market Stress Nowcaster
- Our world Growth Nowcaster rose slightly last week, as DM countries continued printing better macro data.
- Our world Inflation Nowcaster marginally decreased again this week, as Canadian and European data followed the path led by the US over the past few weeks.
- Market stress remained unchanged over the week.
Sources: Unigestion. Bloomberg, as of 6 May 2019.
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Unigestion Multi Asset Risk-Targeted (USD): 31 December 2014 to 31 December 2018
|Composite Net Return||Benchmark Return||Number of Accounts||Internal Dispersion||Composite 3-Yr Std Dev||Benchmark 3-Yr Std Dev||Composite AUM (M)||Firm
1: This year is incomplete.
Special Disclosure: For presentations prior to 31.03.2018 the strategy was measured against the LIBOR 3M USD + 4%. Beginning April 2018 the firm determined that the benchmark did not accurately reflect the strategy mandate and the benchmark was removed. Definition of the Firm: For the purposes of applying the GIPS Standards, the firm is defined as Unigestion. Unigestion is responsible for managing assets on the behalf of institutional investors. Unigestion invests in several strategies for institutional clients: Equities, Hedge Funds, Private Assets and the solutions designed for the clients of our Cross Asset Solution department. The GIPS firm definition excludes the Fixed Income Strategy Funds, which started in January 2001 and closed in April 2008, and the accounts managed for private clients. Unigestion defines the private clients as High Net Worth Families and Individual investors. Policies: Unigestion policies for valuing portfolios, calculating performance, and preparing compliant presentations are available upon request. Composite Description: The Multi Risk Targeted (Medium) composite was defined on 15 December 2014. It consists of accounts which aim to deliver consistent smooth returns of cash + 5% gross of fees across all market conditions over a 3-year rolling period. It seeks to achieve this by capturing the upside during bull markets while protecting capital during market downturns. Benchmark: Because the composites strategy is absolute return and investments are permitted in all asset classes, no benchmark can reflect this strategy accurately. Fees: Returns are presented gross of management fees, administrative fees but net of all trading costs and withholding taxes. The maximum management fee schedule is 1.2% per annum. Net returns are net of model fees and are derived by deducting the highest applicable fee rate in effect for the respective time period from the gross returns each month. List of Composites: A list of all composite descriptions is available upon request. Minimum Account Size: The minimum account size for this composite is 5’000’000.- USD. Valuation: Valuations are computed in US dollars (USD). Performance results are reported in US dollars (USD). Internal Dispersion & 3YR Standard Deviation: The annual composite dispersion presented is an asset-weighted standard deviation calculated for the accounts in the composite the entire year. When internal dispersion is not presented it is as a result of an insufficient number of portfolios in the composite for the entire year. When the 3 Year Standard Deviation is not presented it is as a result of an insufficient period of time. Compliance Statement Unigestion claims compliance with the Global Investment Performance Standards(GIPS®) and has prepared and presented this report in compliance with the GIPS standards. Unigestion has been independently verified for the periods 1 January 2003 to 31 December 2016. The verification report(s) is/are available upon request. Verification assesses whether (1) the firm has complied with all the composite construction requirements of the GIPS standards on a firm-wide basis and(2) the firms policies and procedures are designed to calculate and present performance in compliance with the GIPS standards. Verification does not ensure the accuracy of any specific composite presentation.