Top Five Questions Investors Ask

From

The GFC and subsequent volatility has increased the number of market presentations my team and I have been asked to do for the clients of financial planners. I thought you’d find it useful if I shared with you the Top Five Most Asked Questions from these presentations.

  1. Is the World about to collapse due to record levels of government debt in Europe and, more particularly, the US?
    The incredible reaction to the GFC by developed nation governments, in terms of massive stimulus, does come at a future cost. Governments have racked up substantial (and increasing) levels of debt, not seen since just after World War II. The G7 countries will likely see public debt increase to over 100% of their GDP by 2015. In the absence of any fiscal control, the net debt to GDP ratio would exceed 200% by 2030 and this has many commentators worried (not so much by the Greek situation given it is such a small economy). The big anomaly is that the best way to get debt down in the longer run is to ensure you have a growing economy (which may involve even further stimulus short term). So what do we think about this?

    • Firstly, governments are not like individuals. They have the ability to collect taxes in perpetuity. This means they can sustain much higher longer term debt than individuals
    • For governments to sustain high levels of debt, there must be other entities (typically the high-saving emerging economies) willing to buy their government bonds/treasuries
    • This works fine, provided everyone has confidence that the government can reduce their debt burden in the long run
    • If that confidence evaporates (such as we have seen in the past with many developing nations) that’s when we see massive problems with inflation and currency devaluations
    • Countries with large debt levels can not grow their economy in the future as fast as they otherwise would, as they slowly cut costs and raise taxes to repay debt.

    The bottom line is a huge long term issue that, in many ways, is a necessary outcome of the GFC. The big governments have had a healthy wake up call from the PIGS (Portugal, Ireland, Greece and Spain) and we are already seeing some moves to cut public service costs and government pensions in major economies. Whilst the press can be very alarmist over this issue, these debt issues can be seen as a longer-term drain on the economic growth of these indebted nations, rather than a cause for immediate panic.

  2. Why do the Chinese continue to fund the US by buying US Government securities (treasuries)?
    This question gets asked a lot. People see debt issues in the US, coupled with low interest rates and logically ask why would you want to buy US treasuries?
    The bottom line is that the US treasuries, despite the GFC and US issues, still remain one of the most most liquid and secure places for holders of substantial funds to invest. As money pours into China from abroad to pay for their massive exports, they need a safe liquid, globally tradeable asset to invest in which rules out most other alternatives (even the physical gold market would be too small).
  3. China has lots of issues and we are too dependent on them – what’s going to happen if they have more problems?
    Australia’s natural resources and proximity make us close to China economically. While there are big issues (pollution, maintaining growth to avoid civil unrest, property market bubble etc), we don’t see Chinese growth stumbling too far in the near term. As a communist Government, China has shown a tremendous ability to control its economy and keep growth bubbling along, with the vast population gradually increasing their wealth from a low base. China’s one-child policy will likely lead to a quickly ageing population. However, by the time that happens (say ten years plus), Australia may take greater advantage of Indian growth where the population is much younger. That said, much of Australia’s wealth is made from exporting to China (now the World’s second largest economy and Australia’s biggest export market), so Australia’s growth prospects are in part tied to China.
  4. What’s going to happen to Australian house prices – some people say they are the next bubble?
    World capital flows are so large and volatile, bubbles can and will be created in the future. So, looking out for and avoiding the next bubble is a great way to think about investing. Australian residential property is more of a local market and prices are high when compared to many other markets. I’m reminded of a conversation with renowned US Economist, Professor Robert Shiller, where he pointed out that in the very long term property prices are related to affordability but there can also be long periods of prices getting ahead of affordability and vice versa. The following chart gives one example that can justify why prices have risen, with housing starts being outstripped dramatically by population growth. I believe that residential prices will cool with rising interest rates, but supply/demand factors will most likely keep prices from suffering a major short term fall.
  5. I’m just too worried about losing money with shares, shouldn’t I wait until everything settles down?
    We live in a dynamic, globalised world and there will always be some form of negativity in the headlines. However:
  • Historically, over the longer term, shares increase in value.
  • Various academics are of the view that the best time to invest in shares is at times of the greatest market uncertainty. Waiting for absolute certainty could be the worst time to invest, as sharemarkets tend to do well before any economic recovery is certain.
  • A diversified portfolio that also includes some defensive assets, such as Government bonds, should ensure that you can sleep at night!

You must be logged in to post or view comments.