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Cash is fine, provided you’re happy with a low return. There’s nothing at all wrong with opting to sit on the sidelines and preserve capital, but the days of earning 6% from a cash deposit are gone and not coming back any time soon. “Cash rates are 1%, 2% at best, so the first step in your investment decision becomes whether you are content with a return of virtually zero per cent after inflation, or are willing to take some investment risk,” says Darren Johns, a financial planner at Align Financial on Sydney’s Northern Beaches. “If you are willing to take risk in pursuit of a 6 or 7% return, you need to be able to weather short-term periods of significant capital losses, albeit on paper.”

 

If the cash return is too low for you, you might consider bonds instead of cash. “Cash returns and bond yields are already ultra-low, but as we have seen in the initial response to the Brexit vote, bond yields can always go lower,” says Shane Oliver, head of investment strategy and chief economist at AMP Capital. “When they do, that provides capital gains, enhancing their low running yield.” That’s because when you own a bond and interest rates fall, the value of that bond rises.

 

This is the new normal, unfortunately. “Brexit is just another in a long line of deflationary events over the last few years all reinforcing market expectations that interest rates will stay lower for longer, which in turn pushes bond yields down,” Oliver says.

 

So which bonds to buy? Relatively speaking, Australia looks pretty good – or better than the alternatives, anyway. “Sovereign bonds, in our opinion, have become not fit for purpose,” says Mark Wills, head of the investment solutions group for Asia Pacific ex-Japan at State Street Global Investors. “In Europe and Japan, bonds are at a negative yield; their traditional role as a risk mitigator has largely disappeared.” Australia does at least still offer some yield. “The 10-year [government bond] is a low risk asset in a turbulent world,” says Wills.

 

How about equities? When share prices fall, value must eventually arise, mustn’t it? Yes, but it is a brave soul who goes hunting for value in the UK or Europe just yet. “What the Brexit vote will do is add to uncertainty among corporates in Europe – who will be less likely to invest until there is clarity about Europe’s future,” says Charles Robertson, global chief economist at Renaissance Capital in London. Noland Carter, CIO of Heartwood Investment Management, recommends reducing exposure to European equities for now.

 

British and European assets should be distinguished. “Value will no doubt arise,” says Oliver, “but I would be a bit cautious re UK assets as they face more uncertainty than European assets,” unless it becomes clear another European state wants out from the EU as well. “The 8% plunge in Eurozone shares last Friday have taken them even further into ultra-cheap territory, which should be unwound over time as investors realise that the euro is not about to break apart. ECB monetary policy will remain ultra-easy.”

 

But most investors are seeking less risk, not more. “We expect risk aversion to be high in the coming days and weeks,” says Marios Maratheftis, global chief economist at Standard Chartered in Dubai. “This will keep risky asset classes under pressure.”

 

That’s fine – but what is a safe haven these days? Apparently not sterling, or the euro; yen, perhaps, but Japan has negative interest rates, which are no fun at all. The US dollar and US Treasuries retain their reputation as a safe haven, and the US economy is doing pretty well by global standards, but there’s a Trump on the horizon there. What’s the answer? “The Singapore dollar!” Piyush Gupta, CEO of DBS, tells the AFR triumphantly; but then again, he’s a little biased, as his bank is the largest in Singapore.

 

A more common answer is gold, the standard safe haven when things go wrong, and also used as a hedge against inflation. Marie Owens-Thomsen, chief economist at Indosuez Wealth Management, says that the accommodative monetary policies around the world right now are inflationary. “This makes gold particularly attractive as a safe haven,” she says. Prior to Brexit, she had US$1350 per ounce as a price target; the UK exit, she says, adds to the positive momentum and will make her next target US$1400.

 

State Street here in Australia favours gold in both its equity portfolios (through listed gold miners) and its multi-asset portfolios. Given the choice between miners and the metal, “go the metal, every time,” says Wills. “Our view is that this is a perfect time for gold. There isn’t a competitor in terms of a natural risk aversion asset class.”

 

The only problem with this is that gold has already had a great run since January. Can it go further? Gold, when it gets positive, it tends to go long and hard for an extended period,” says Wills. “Also, risk is if anything getting worse, not more straightforward.” Another consideration is that gold prices are quoted in US dollars, so the outcome for Australians will depend on currency movements, unless they buy a hedged product that takes currency out of the equation.

 

Portfolio managers also stress the importance of diversification, so as to smooth out declines in individual asset classes or parts of the world. Also, diversification needs to be managed, particularly if asset prices are moving a lot. “It is a good time to review portfolios,” says David Lafferty, chief of market strategies at Natixis Global Asset Management. “Extreme price moves bring with them the chance to rebalance and reset portfolio allocations.” Equities will look more reasonably priced, and fixed income allocations will automatically increase because the value of the equities has declined. “While rebalancing can’t prevent losses, it helps to mitigate a potentially larger problem – the risk that the portfolio wanders too far from its long term risk-reward objectives.”

 

Carter at Heartwood is exploring opportunities in UK property, and he is not the only one. Estate agents in the UK – particularly in Edinburgh, which combines a high-yielding buy-to-let market with the possibility of a booming financial centre if Scotland were to leave the UK and stay in the EU – report dramatically increased inquiry from overseas after the Brexit vote as the pound began to fall. Foreign buyers have always been enormously influential in British real estate, chiefly in London, and since their money now buys more than it did 10 days ago, they are likely to continue to do so. “UK listed property developers have fallen by as much as 30% this week, and this plus the sharp fall in sterling could stimulate international investor flows into this market,” Carter says.

 

The only problem with this is that the Australian dollar has fallen so much over the last couple of years that the recent shifts need to be seen in context. Yes, your Aussie dollar buys more pounds than it did two weeks ago, but still not nearly as many as it did as recently as 2013. Besides, although there are predictions of property market declines in the UK, these things move slowly and bargains will take time to emerge.

 

Generally, Australian exposure to the UK tends to be low. “The English market represents 3-4% of world capitalisation, only marginally bigger than Australia at 2-2.5%,” says Johns. “So our clients don’t own a terribly large amount of stock or other investment in UK, or Europe.” European equity funds are not particularly widely held in Australia either. “Australian investors tend to gravitate more to the US and Asia for the international exposure,” he says. “If you look down the investment menus and approved product lists from many financial providers here, you’ll see a Japan fund, a China fund, an Asia fund, an international fund, a US fund, and maybe a European fund, but it’s a much smaller section of the market.” Clients who play European currencies, he says, are very rare.

 

Asia looks relatively unscathed, as does the US, which is good since, as Johns says, these tend to be bigger allocations for Australia. Everything is battered by volatility, as markets don’t like uncertainty anywhere in the world, but there is not enough of a systemic link between the UK economy and the rest of the world to derail market performance for long.

 

And perhaps all of this shows that Australia is still full of opportunity. “Bank stocks are still the default investment for retirees, purely because they pay a 5-6% dividend plus some franking,” says Johns. “They are still the darling of many investment portfolios.” And it’s worth taking a moment to see how this compares to the rest of the world: it is a bit of a shock to Australians sometimes to learn that yields like this are absolutely unheard of in most western and Asian markets, particularly from a safe and steady blue chip. Elsewhere, Johns says he is becoming increasingly positive about selected subordinated hybrid instruments from the banks, which are listed and widely held by retail.

 

Olivia Engel, head of active quantitative equity for Asia Pacific at State Street, says she is still put off by the level of volatility in the Australian banks, but does say they are becoming more compelling as valuations come down. Her colleague Wills notes: “REITs are going to continue to be loved, and for good reasons.”

 

At times of uncertainty, there is a strong argument for sticking with familiar things you understand.

Chris Wright
Chris Wright
Chris is a journalist specialising in business and financial journalism across Asia, Australia and the Middle East. He is Asia editor for Euromoney magazine and has written for publications including the Financial Times, Institutional Investor, Forbes, Asiamoney, the Australian Financial Review, Discovery Channel Magazine, Qantas: The Australian Way and BRW. He is the author of No More Worlds to Conquer, published by HarperCollins.

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