The sudden change in the investment climate shouldn’t cause SMSF trustees to panic. Rather, they should see it as a chance for a useful check on how well their investment strategy is working.
Steady as she goes
First, there’s a chance that the worries about the world economies and the role of central banks will prove overdone. The sharp reaction by uneasy markets to Ben Bernanke’s comments was inevitable – any indication on the possible ending of quantitative easing was bound to provoke concern.
Second, no one can actually be sure where the stock market is headed or the likely exchange rate of the Australian dollar. Those who claim they do know are over-stating their competence; those who believe the economic commentators are forgetting their past history of forecasting.
In short, there’s probably no case for a drastic change to investments. Fleeing from the stock market in fear of a possible drop may mean SMSFs are protecting their capital. But this could be at the expense of lower immediate income (there’s now less comfort in term deposit rates) or capital losses (bonds and fixed interest securities still appear set up for a market fall).
Asset allocation still key
Instead, investors should rely on the most basic tenant of their investment strategy – diversification. A mix of shares, bonds, cash and property is essential; the debate should be about the likely best mix, rather than rash decisions to dump large holdings.
Remember, falling share prices don’t necessarily mean lower dividend income if the portfolio is invested in companies with well-covered dividends. Over all but the short-term, good companies’ dividends keep rising; the lesson from the GFC setback is a case in point.
And because most experts are unable to forecast accurately things like inflation, interest rate movements and exchange rates (and, more importantly, to get the timing spot on), investors simply must ensure they have a diverse mix of assets, which will provide some hedge to future events.
Don’t be a trend follower
Investment literature abounds with studies showing that investors – both the professionals and amateurs – suffer from switching at the wrong time. There now is so much noise around the markets that it’s hard to identify real signals, and bitter experience tells us that it’s far easier to read signals correctly after the event.
There’s also the danger that, once burned, investors will learn the wrong lesson; ie, assume a particular asset class is no good rather than what’s wrong is buying or selling at the wrong time. Many investors abandoned real estate investment trusts (REITS) completely after their sell-off, missing the subsequent recovery.
Similarly, there’s a danger that investors will decide to forget about gold after its fall from grace. Without embracing some of the more extreme views, investors still might consider a modest gold holding (up to 5% – at lower prices) in their portfolio as a precautionary hedge against a really nasty outbreak of inflation from the world’s continued money printing.
Overall, investors need a healthy dose of scepticism in treading a safe path through the investment market. Just as they seem, increasingly, to disregard the investment managers’ claim to add value (above their fees), they also need to be aware of the sort of big picture trends, which inevitably affect their investments. This means keeping an eye on share price/earnings levels to guard against buying too high. It also means watching interest rates like a hawk to avoid over-commitment to fixed interest securities when, inevitably, interest rates rise and trigger falling prices.
Not to mention watching the dangers of “fashionable” investing, such as a large, unwieldy, single property investment, along with a level of spruiking for such investments, which has attracted the attention of the SMSF regulators.
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 regards to your circumstances.
Also in the Switzer Super Report
- James Dunn: A happy arrival – Virtus Health IPO [1]
- Anna Kassianos: Fundie’s favourite – Oil Seach [2]
- Ron Bewley: The energy sector – ORG, STO and WPL outperform [3]
- Penny Pryor: Don’t get caught – fraud and SMSFs [4]
- Paul Rickard: Question of the week – income replacement [5]