Market Update
“If you can’t feed a team with two pizzas, it’s too large” Jeff Bezos
The RBA’s GDP growth forecast for 2021 has been lifted from 3.5% to 4.75%. That “burst” of growth is forecast to slow back to 3.5% (unchanged from February), and to 3% (unchanged) in the year to June 2023 (end point of forecast period). The main driver of the boost to growth in 2021 is the consumer, with consumption growth lifted from 4% to 5.5% (Westpac 5.8%) reflecting faster growth in disposable income and a fall in the household savings rate from 12% to 8% over the year. The forecast unemployment rate by end 2021 has been reduced from 6% to 5%. A key aspect of economic health is wages growth forecasts which have been lifted slightly by 0.25% in 2021. This is still a major factor driving economic policy and inflation. It’s unlikely the RBA will ever consider raising interest rates until the labour market tightens, and wages growth starts to improve.
The Budget was delivered last night, and it certainly got the cash register out by delivering a $74.6 billion spending spree, including tax cuts, aimed at supporting the Australian economy on several fronts. From a fixed income point of view the spending from this budget will push the national debt out to $1.2 trillion by 2025 and keep the budget in deficit for at least another 10 years. The key takeaway from this is that Australian interest rates will likely remain low for quite some time as the Government pays down the debt. If nothing else, this further strengthens the case for Corporate Bonds as the credit backdrop further improves in line with the economy and with yields of 4-5% it’s a great opportunity.
This week we look at different types of risk affecting securities. Market risk, or systematic risk, affects the performance of the entire market simultaneously. An example of this would be how the markets around the world reacted to not only the GFC but also COVID. This type of risk cannot be eliminated through diversification. In other words, securities of every class move in the same direction. Specific risk, or unsystematic risk, involves the performance of a particular security and can be mitigated through diversification. An example of this would be to hold a portfolio of bonds by different issuers, something we encourage all our clients to do. Bonds are directly affected by movements in interest rates which in turn are affected by central bank announcements. If we look at the current situation in Australia, interest rates are at all-time lows and the RBA maintains that this will be the case for some time yet. There are still a host of opportunities in the market delivering above market returns like Corporate Bonds which still have yields to maturity of 4-5%. The chart below illustrates how systematic, or market risk is a constant in any portfolio and unsystematic risk, or specific risk, decreases the more securities or bonds one has in their portfolio.
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