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Uncertain times but be ready to lock and load

[Editor's note: Peter Thornhill is an advocate of investment portfolios heavily dominated by shares, taking a long-term view and riding out the inevitable volatility. It's not suitable for everybody. His previous article in Cuffelinks showed his strong following from his books and years of presenting, and we have received requests such as this from Anthony for an update: "Hi Peter, I have a significant amount of funds to invest for income/growth to the amount of $1m. What should I do in this moment, should I dollar cost average in or throw it all in one hit, or wait for a market crash?" Obviously, we do not give personal financial advice, but here are Peter's latest thoughts].

“All the notions we thought solid, all the values of civilised life, all that made for regularity in the economy … all this seems badly compromised …
Never has humanity combined so much power with so much disorder, so much anxiety with so many playthings, so much knowledge with so much uncertainty.”
Paul Valery (1871-1945) French poet and critic

The quotation above is engraved on my mind. Despite the dating, it is as relevant today as when it was first written.

I am becoming increasingly aware of the fact that my naturally pessimistic nature about the affairs of the human race appear to be shared by others. Two articles in a row were sufficient to trigger this.

The first was an edition of Cuffelinks where Managing Editor, Graham Hand, eloquently spelt out my own lingering concerns about the global economy.

The second was an article by Peter Hartcher in the Sydney Morning Herald. Whilst domestically-focussed, it resonated with me. Despite the positive spin on several issues, all local, it was the bigger global issues that concern me.

Financial crisis as a buying opportunity

Don’t get me wrong, all clouds have a silver lining and I have said many times that two global financial crises in a lifetime would be a blessing beyond belief. Post the GFC in 2007-2008, I’m on record when asked what was on my wish list for the coming weeks, I responded with a request for another financial crisis. When the interviewer asked why, I said that I would like to buy more CBA at $26, more Wesfarmers $13, etc.

A Black Swan event is an event in human history that is unprecedented and unexpected at the point in time it occurred. However, after evaluating the surrounding context, domain experts (and in some cases even laymen) can usually conclude: “It was bound to happen.”

In all my presentations, I am at pains to point out that as humans fail to absorb and apply the lessons of history, they are doomed to repeat the cocktail with twists added by technological advances. As always, these are both a blessing and a curse in the affairs of humans. Technological advances resulting from two world wars enabled us to lift the number of those killed from around 40 million first time to around 80 million.

Technology enabled the US to export its fraudulent mortgage lending virus around the world, wreaking havoc on financial markets culminating in the GFC. This event raised the bar on government intervention to levels not experienced in living memory. We are now microbes in a central bank and government experiment.

Back further, prior to the GFC, we had the dotcom fiasco, and stories included:

'NASDAQ index had fallen 78% by October 2002'

'The Fed cuts interest rates to 1% to stimulate economic growth'

This was preceded by the first Gulf War in 1990 with the appropriate headlines:

'Airlines face fivefold increase in insurance'

'Bush Administration moves to distribute crisis across international community'

'US unemployment rate rises to two-year high in August'

The 1987 crash remains fresh in my mind as it coincided with my return to Australia. We had the largest peacetime one-day fall of 22% in the US triggered by concerns over insider trading and company takeovers using borrowed money. The collapses led the Fed and other central banks lowering interest rates sharply. Conventional economic theory has been applied on every occasion leading us to the cul-de-sac we are presently in.

There was no reference to the increase in moral hazard every time the authorities reacted by cutting interest rates. On the contrary, there has been much back-slapping and high-fiving as they congratulated themselves on rescuing their economies from the downswing on each occasion. The smugness has been palpable. There is no acknowledgment of the asset bubbles this strategy has created.

The element I find intriguing is the ongoing fixation with the security of government bonds. I am being made to feel irresponsible for an asset allocation that doesn’t include fixed interest investments.

The issue that exercises my mind in the current climate

I don’t want to go through the detail of the relationship between bond yields and bond values, except to summarise that as interest rates fall, fixed rate bond prices rise and vice versa. With interest rates at current levels, we have had a bull market in bonds of unprecedented magnitude.

As a gentle reminder for those old enough to remember, the interest rates rise in the late 80s and early 90s led to a collapse in bond prices which led to many ‘capital stable’ managed funds becoming unstable.

The following is the opening paragraph of a 1994 Fortune magazine article:

“Wasn’t this supposed to be the year Alan Greenspan got to triumphantly parade down Wall Street to the cheers of bondholders big and small? In many ways the circumstances seemed right. In January 1994, the 34th month of economic expansion, bond yields were historically low and inflation seemed negligible. Wages were going nowhere, and companies dared not raise prices. But within seven short months of that promising start, something fairly unusual happened. 1994 became the year of the worst bond market loss in history.”

Does any of this sound familiar? If you are interested, here is the article.

In the current climate, how do central banks and governments ‘normalise’ interest rates without triggering the next biggest “bond market loss in history”. Unless of course, interest rates never go back up, so we can all rest easy!

What does this mean for me?

I remain, as always, sanguine, alert but not alarmed. Aware that if the bond markets tank, the inevitable reaction of the sharemarket will be panic.

Spend less than you earn and borrow less than you can afford. Lock and load for the amazing bargains that will present themselves.


Peter Thornhill is a financial commentator, public speaker and Principal of Motivated Money. This article is general in nature and does not constitute or convey specific or professional advice. Share markets can be volatile in the short term and investors holding a portfolio of shares will need to tolerate short-term losses and focus on a long-term horizon, and consider financial advice.


January 24, 2019

James - there was a lovely letter written by a fund manager (I think) in yesterday's AFR regards Bowen's franking credit plan. Along the lines of ... if Labour win then he will advise all his clients to commute pensions and cash out their accumulation lump sum. Thus the cashed out amount is subject to non-super system tax which of course will be minimised or erased by franking credits (no franking credits left on the shelf !). Also this sum has no super system restrictions (e.g min / max withdrawal limits, 'inheritance tax' for non dependents etc). Oh, and Labour don't get the revenue hit they were planning on of course. Leaving aside the humour (?) value, this builds on a lot of comments / articles (Noel Whittaker most prominently) that suggest most folk have options for reshuffling to avoid the Labour 'hit' if they want and that the likely impact (as per Deborah Ralston's article in the current Cuffelinks letter notes) is on poorer, older SMSF pensioners (despite Labour's allowances). Or you can take Peter's view that franking is the cream on top of a great dividend track record / strategy and if a part of that cream sours so it is inedible ... well it's still a great strategy ! Personally I'm mystified why Bowen has introduced a tax raising or minimising initiative in this way when it could have been done far more equitably in other ways but hey ho !

January 22, 2019

Hi Peter,

Any comment or insight into the continued viability of your preferred investment vehicle of conservative older LIC’s, given that some LIC’s like AFI and MIR are paying out special dividends ahead of an odds on Shorten Labour government which will punish self funded retirees and investors in general?
If franking credits are no longer refunded, only offset against tax due, is there a better way forward?

p thornhill
January 23, 2019

Absolutely no change. For how long did we prosper without them and how many other countries have such a convoluted and generous system as we have.

January 23, 2019

Thanks Peter.

January 21, 2019

Peter, can you provide any info to illustrate the point you made about the effect of the 1994 collapse in bond prices on 'capital stable' funds? i.e. where you said "a collapse in bond prices led to many ‘capital stable’ managed funds becoming unstable."

What happened? What do you mean when you say they became 'unstable'? Did they just go negative for a bit, or completely die in a ditch, never to return?

Like many people I have some of my super in a "conservative" type fund that contains fixed interest and bonds. Thanks.

Warren Bird
January 21, 2019

If I can jump in here, Sue. I still have vivid memories of 1994, as it happened early in my career as a fixed income fund manager and was a great learning experience.

1994 saw a significant rise in bond yields. Thus, bond prices fell, significantly by their standards. This flowed into a mark-to-market loss in many capital stable funds. Because those funds also held a bit of equities, which fell in 1994 as well, a lot of them posted negative returns for the calendar year.

They'd marketed themselves as not doing that. Why they made such a promise when they were invested in an asset class that had an average maturity quite a bit longer than a year is beyond me, but they did.

But they didn't 'die in a ditch and never return'. You're right to ask that question, Sue, because it's always important to appreciate that volatility in bond fund values is only volatility and not a permanent gain or loss of capital (unless they're atrociously managed by panicky traders who realise losses all the time). In 1995 bond yields fell and bond funds recorded strong gains. And, more important, the shift up in yields from those lows of 1993 that Peter mentions, resulted in an increase in returns from what they would have been if yields had not risen.

You get a flavour of this in my article on the life of a fixed rate bond ( which cross-references a couple of others.

Capital stable funds have since become 'conservative' options and more appropriately market themselves as offering a more capital steady option over a 3 year timeframe. Or to provide 'longer term' capital stability with an income focus.

There were nuances with specific funds back in 1994 (some were badly managed), but on the whole it was a product description issue which created expectations that couldn't be met. I think the industry on the whole has its terminology and marketing a bit more aligned with investment reality these days.

The lessons I learned in 1994 - and the years that followed which showed how fixed income really does work to provide an income return - are reflected in a lot of my articles. I'm going to go my grave one day still preaching, "don't be afraid of rising bond yields."

January 21, 2019

Thanks Warren! I appreciate you jumping in - and shall read your article.

p thornhill
January 23, 2019

Thank you Warren. Your deep response is appreciated.

January 18, 2019

Peter, can we see an update of the main chart in the February 2018 article, thanks.

peter thornhill
January 20, 2019

Hi Deborah.
Update attached


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