One of the strangest developments for stock players recently has been the continuance of the bull market led by defensive, income-paying stocks. This question was rammed home as the Reserve Bank cut the official cash rate of interest in July, after doing the same in June.
This took the cash rate down to 1%. And there are economists out there predicting we’ll see what the RBA Governor, Dr. Phil Lowe, would rather not have to create, and that’s a cash rate at 0.75%, or worse still, 0.5%.
That’s why Dr Phil has pumped in two rate cuts worth 0.5% since the May 18 election, which undoubtedly he hopes will be helped by tax cuts that will deliver an immediate tax cut up to $1,080 for low and middle-income taxpayers. This will inject $15 billion into an economy crying out for stimulation. And along with a lower dollar and infrastructure spending by the Government, this could see the economy step up to higher growth in the second-half of 2019 rolling into a stronger 2020.
But this isn’t just a local story. In the Statement that went with the 2 July rate cut, Dr. Lowe said that “the outlook for the global economy remains reasonable. However, the uncertainty generated by the trade and technology disputes is affecting investment and means that the risks to the global economy are tilted to the downside.”
This is a nice way of saying that Donald Trump’s trade war is hurting global and Australian economic growth and we have to do something about it.
This was the message that Prime Minister Scott Morrison took to the G20 meeting and a resolution to this trade standoff between the US and China needs to happen sooner rather than later.
There are those who thought that if a trade deal was negotiated, the rate cut might not have been needed. But it’s clear that the RBA wants a multi-barrelled assault on our economic slowdown, so low interest rates are here to stay for some time yet. And if President Trump gambles and drags out his trade wrangling until later this year and even into 2020, then more rate cuts would be expected.
So how do those investing for income need to respond?
The next step up from term deposits (which many retirees would love to be at 5% but are at the low 2%-region) is bank hybrid securities. That said, these would be less rewarding as interest rates fall but at least they do offer investors a decent return.
The port of call for most investors chasing income will be income-paying stocks. Even though they have been leading the stock market index higher of late, many expert fund managers believe this story isn’t over yet. When a trade deal is announced, there’ll be a rotation into more risk/growth stocks. But for now, dividend payers will remain popular, if only for income reasons.
Earlier this year, the Australian Financial Review (AFR) reported that Ausbil fund manager, Paul Xiradis, said the rotation into bond proxy style stocks quite shocked an old stager like him. “There was an incredibly wild swing away from those growth-orientated exposures back to very, very defensive assets,” he adds. “That swing was one of the wildest swings in a such a short period of time I’ve ever seen.”
And he thinks this trend isn’t over yet.
Six months on and fund managers still think income-chasing in the stock market is the main game in town.
“With the market trading on an elevated P/E [price-earnings] multiple and on our numbers likely to deliver earnings per share growth of around 4 per cent, it is tough to see significant capital gains in the ASX over the next 12 months,” said Atlas Funds Management chief investment officer, Hugh Dive.“We see that over the next year, the bulk of the returns that investors will get from investing in Australian shares will be from dividends, not capital gains.” (AFR) And Paul Xiradis is still singing from the same hymn book: “If interest rates remain low, with a downward bias and potential for more easing, then long duration rate-sensitive assets such as REITs [real estate investment trusts], infrastructure and utilities should be well supported, and could go higher.”
Clearly, as the well-known dividend-paying stocks are consumed by professionals and retail investors alike, it could be valuable to think about investing with fund managers who specialise in collecting stocks that pay a high yield.
Finally, if you’re wanting to add diversification to your portfolio, a US-based corporate bond fund that has had a history of paying 5%, the Neuberger Berman Global Corporate Income Fund, is now listed locally under the ticker code of NBI. A combination of the products mentioned above, taking account of franking credits from your stock plays, should push potential returns to around 6% a year, which looks pretty good considering the best 12 month term deposit rate nowadays is around 2.15%. Of course, it does come with more risk.
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regard to your circumstances.
