Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 539

Time to announce the X-factor for 2023

42 years ago, I experienced what is now called ‘a light bulb moment’.

In the six months to May 1982, Japanese institutional investors purchased about 8%of Australian government bonds on issue.  At a lunch-time discussion at the time, I suggested we should see the unexpected surge in Japanese holdings of Aussie bonds as an Factor-X in our investment markets.

A few months later, I felt early signs of a new and urgent obsession.  It grew into a compulsive need to select the Factor-X in investment markets each year.  That obsession has stayed with me for 42 years.  And “the rules of the game” have changed just once - in 2009, when a sub editor at The Australian re-named Factor-X as the X-Factor.

The X-Factor is the major influence on investment markets that had not been generally predicted or allowed for, but which came out of the woodwork with a powerful effect. My list of all 42 years of the X-Factors is set out below.

To be a fan of the X-Factor, as I am, doesn’t preclude taking a view on where the economy, shares, interest rates, property and the exchange rate seem to be headed. Rather, it’s a reminder that investors need to allow for uncertainties and surprises; and diversification and awareness of risk are important to successful investing.

Sometimes, the X-Factor is favourable for investors. Examples of positive X-Factors include, in chronological order:

  • the floating of the Australian dollar in 1983
  • the collapse of inflation here in 1991
  • our economy being little affected during the global financial crisis of 2008
  • the powerful surge in share prices that began in March 2009
  • the boost to most commodity prices in each of 2016, 2018 and 2020 as China avoided the hard landing forecast for it
  • the sharp recoveries in the global economy and share prices soon after the Covid panic.

Other times, the X-Factor has been unfavourable. For example, and again in chronological order:

  • the sharp rise in bond yields in the fake crisis of 1994
  • the terrorist attacks in the US in 2001
  • the Enron frauds in US markets in 2002
  • the near meltdown in the global bank system in 2008
  • the powerful disinflation in the 2010s
  • Covid in 2020
  • the sharp increases in inflation and interest rates in 2022

THE FINALISTS FOR 2023:

No world-wide recession

Some investment banks and brokers spent much of 2023 updating their earlier warnings of an imminent global recession.  From mid-2022, they’d been advising investors to switch from shares to interest-bearing assets, including bonds, to limit the harm that the (expected) recession would cause.

Recession didn’t eventuate. In fact, in the second half of 2023 - the favoured timing for the economic crisis that was to trigger recession – US economic growth surged. News bulletins in the US dropped their gloomy talk. Instead, they used phrases such as “soft landing”, “economic resilience, and even the “Goldilock’s economy”.   

Australia also avoided recession. Though we’ve shared the US experience of a strong labour market, our recent growth has been more subdued because our preference for variable rate debt adds to the impact interest rates have on spending. 

Of course, there will be recessions in future years – but investors can be sure recessions will be fewer in number and more widely spaced over time than the predictions of ‘financial markets’ will suggest.  Paul Samuelson, a famous US economist, pointed out 60 years ago that the stock market had predicted nine of the previous five recessions.  Investors should keep his wise words front of mind.

Bonds v shares in 2023

Traditionally, bonds appeal to investors in difficult times because they’re seen as better at preserving investors’ wealth than shares. But this view was tarnished in 2023, when shares moved (unevenly) higher over the year,  while the market value of bonds was hurt by rising interest rates.  At their peak, yields on 10-year bonds rose to be more than four percentage points than at their lows in the worst days of the Covid epidemic. (When interest rates move up, the market price of bonds declines – and the longer the bond’s term to maturity, the greater the impact.  (Thankfully, Australia did not follow the example of Austria in issuing a 100-year bond carrying an annual coupon of 1%.)

In 2022 and early 2023, the best ways to reduce risk while cash rates and bond yields did not appeal were floating rate securities including bank hybrids.

US tech stocks

Every review of investment markets for 2023 will doubtless feature the massive increases in share prices of US tech stocks.  At times, capital gains from shares in the ‘Magnificent Seven’ tech companies (Alphabet, Amazon, Apple, Meta, Microsoft, Nvidia and Tesla) exceeded those in all share markets around the world.

The reasons are not hard to find: the US often generates the best commercial technology and is quick to apply it (think of Artificial Intelligence), many investors have happy experiences using the products or services of the tech companies to influence their choice of investment, and most US tech companies are adept at cutting costs when necessary to maintain high rates of growth in their earnings.

In valuing these shares, investors should avoid traditional valuation metrics such as price-to-earnings ratios and assess opportunities using GARP (that’s the acronym tor Growth at a Reasonable Price), along with carefully thought-out numbers for the increase in earnings over the next five years.

The outlook for cash rates

These days, there’s a flood of analysis and prediction of decisions the Fed and other central banks will make on their cash rates. Two things stand out.  One is the high degree of market confidence that cash rates will soon stabilise and be cut in the first half of 2024.  And secondly, even stern suggestions by the Fed’s Jerry Powell that interest rates could be higher for longer, have little effect on market thinking beyond about day and a half.

My thinking aligns with that of Escala’s Mark Cooper who’s said, “we've recently seen bond markets make the seventh attempt this cycle to price in a dovish central bank pivot.  Even though the other six have reversed it doesn't necessarily mean this one will, as well… (But) I would say that unless the US sees a recession, it will be tough to see a big imminent global easing cycle.”

My view is inflation will run at 3-4% in both the US and here in 2024, high enough to preclude cuts in cash rates. And there’s a 2 in 10 chance of both cash rates being raised next year.

The Federal Government’s argument is that it’s a global inflation problem. In my view, the Government should recognise that much of our inflation is made in Australia.

New taxes

The Treasurer is preparing plans to substantially increase total tax revenues.  His recent outline of a new tax on superannuation, and the effort going into rescinding Stage 3 of the tax reform Labor voted for in the last Parliament, shows how difficult - and brave – these will moves will be.

Clearly, the appeal of superannuation to middle Australia would be reduced.  And super funds would have less incentive to invest in small companies, whose share prices are often more variable year by year.

Immigration

In the last 12 months, net immigration has increased the population by around 500,000. The intake has enabled businesses to fill vacant positions, especially in heath, retail, cafes, and construction. It’s also contributed to inflation in house prices and rents.  Can I ask for tolerance in debates on immigration - many people seeking a considered reduction should not be accused of dog whistling.

And the winner is?

My pick for Factor-X in 2023 is US tech stocks.  Even when the current surge in prices cools, US tech stocks can provide worthwhile returns to patient investors who have a reasonable understanding of how they should be valued.

 

Don Stammer has been involved in investing for many decades as an academic, a senior official of the Reserve Bank, an investment banker, the chairman of nine companies listed on the ASX, and columnist for The Australian and Business Review Weekly. The article is general information only and does not consider the circumstances of any investor.

 

42 years of the X-factor file

2023 The surge in share prices of US tech stocks, and the better understanding of how they should be valued

2022 High inflation, tighter monetary policies, and sharp rises in interest rates

2021 The fracturing of the long-dominant view low inflation is here to stay

2020 Covid-19

2019 Strong share markets despite repeated predictions of global recession

2018 The impact from the royal commission on financial services

2017 The positive macro influences that, globally, restrained volatility, boosted shares and kept bond yields low

2016 Election of Donald Trump as US president

2015 Widespread experience of negative nominal interest rates

2014 Collapse in oil price during severe tensions in middle east

2013 Confusion on US central bank’s “taper” of bond purchases

2012 The extent of investors’ hunt for yield

2011 The government debt crises in Europe

2010 The government debt crises in Europe

2009 The resilience of our economy despite the GFC

2008 The near-meltdown in banking systems

2007 RBA raises interest rates 17 days pre-election

2006 Big changes to superannuation

2005 Modest impact on economies from high oil prices

2004 Sustained hike in oil prices

2003 Marked fall in US dollar

2002 Extent of US corporate fraud in Enron etc

2001 September 11 terrorist attacks

2000 Overshooting of exchange rates

1999 Powerful cyclical recovery across Asia

1998 Resilience of our economy despite Asian crisis

1997 Asian financial crisis

1996 Global liquidity boom created in Japan

1995 Powerful rally in US markets

1994 Sharp rise in bond yields

1993 Big improvement in Australian competitiveness

1992 Souring of the vision of “Europe 1992”

1991 Sustainable collapse of inflation1990 Iraq invasion of Kuwait

1989 Collapse of communism

1988 Boom in world economy despite Black Monday

1987 Black Monday collapse in shares

1986 “Banana Republic” comment by Paul Keating

1985 Collapse of A$ after MX missile crisis

1984 Measured inflation falls sharply

1983 Free float of Australian dollar

1982 Substantial Japanese buying of Australian bonds

 

 

 

 

RELATED ARTICLES

Stocks don't always beat bonds

Which asset classes are undervalued right now?

Global recession looms as debt balloons

banner

Most viewed in recent weeks

Meg on SMSFs: Clearing up confusion on the $3 million super tax

There seems to be more confusion than clarity about the mechanics of how the new $3 million super tax is supposed to work. Here is an attempt to answer some of the questions from my previous work on the issue. 

Welcome to Firstlinks Edition 566 with weekend update

Here are 10 rules for staying happy and sharp as we age, including socialise a lot, never retire, learn a demanding skill, practice gratitude, play video games (specific ones), and be sure to reminisce.

  • 27 June 2024

Australian housing is twice as expensive as the US

A new report suggests Australian housing is twice as expensive as that of the US and UK on a price-to-income basis. It also reveals that it’s cheaper to live in New York than most of our capital cities.

The catalyst for a LICs rebound

The discounts on listed investment vehicles are at historically wide levels. There are lots of reasons given, including size and liquidity, yet there's a better explanation for the discounts, and why a rebound may be near.

How not to run out of money in retirement

The life expectancy tables used throughout the financial advice and retirement industry have issues and you need to prepare for the possibility of living a lot longer than you might have thought. Plan accordingly.

The iron law of building wealth

The best way to lose money in markets is to chase the latest stock fad. Conversely, the best way to build wealth is by pursuing a timeless investment strategy that won’t be swayed by short-term market gyrations.

Latest Updates

Investment strategies

Have value investors been hindered by this quirk of accounting?

Investments in intangible assets are as crucial to many companies as investments in capital equipment. The different accounting treatment of these investments, however, weighs on reported earnings and could render ratios like P/E less useful for investors.

Investment strategies

Investors are threading the eye of the needle

As investors cram into ever narrower areas of the market with increasingly high valuations, Martin Conlon from Schroders says that sensible investing has rarely been such an uncrowded trade.

Economy

New research shows diverging economic impacts of climate change

There is universal consensus that the Earth is experiencing climate change. Yet there is far more debate about how this will impact different economies across the globe. New research sheds more light on the winners and losers.

SMSF strategies

How super members can avoid missing out on tax deductions

Claiming a tax deduction for personal super contributions can end in disappointment if it isn't done correctly. Julie Steed looks at common pitfalls and what is required for a successful claim.

Investment strategies

AI is not an over-hyped fad – but a killer app might be years away

The AI investment trend looks set to continue for years but there is only room for a handful of long-term winners. Dr Kevin Hebner also warns regulators against strangling innovation in the sector before society reaps the benefits.

Retirement

Why certainty is so important in retirement

Retirement is a time of great excitement but it is also one of uncertainty. This is hardly surprising given the daunting move from receiving a steady outcome to relying on savings and investments.

Economy

This vital yet "forgotten" indicator of inflation holds good news

Financial commentators seem to have forgotten the leading cause of inflation: growth in the supply of money. Warren Bird explains the link and explores where it suggests inflation is headed.

Sponsors

Alliances

© 2024 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.