John Abernathy

Clime Asset Management has warned that self-directed investors can’t be complacent following a major shift in the investment landscape following the US Federal Reserve’s announcement delaying further interest rate increases for a year and flagging slower growth in the US economy.

“This is a significant announcement for self-directed investors,” Clime’s John Abernethy says. “It signals lower potential returns from equities, which will create much greater competition for yield assets. Self-directed investors need to move quickly to lock in yields.”

The US Federal Reserve overnight said it would not be raising interest rates in 2019, with only one hike in 2020. The Fed will hold its balance sheet steady and be more active in the bond market, recycling mortgages into US Government bonds.

The Fed has also acknowledged the US economy is slowing, with the central bank now forecasting growth of 2.1% in 2019, effectively cutting 0.2% off their forecast issued three months ago. The Fed sees growth slowing again to below 2% in 2020.

Abernethy says the Fed’s announcement has serious implications for investment strategies.

The announcement will cause interest rates to compress, with a reduction in bond yields. “Australian bonds have already rallied with yields just 10-basis points above their all-time lows in the wake of the Fed’s move,” he says.

Slowing US growth also means that the capital gains potential of equity markets will be lower. “Returns from equity markets will now be substantially yield driven,” Abernethy says.

But above all the announcement will also create competition for yield assets.

“A significant problem is emerging for big asset and pension managers who need to get a sustainable yield at reasonably low risk. They have traditionally sought this from the bond market, but that opportunity has been taken away from them.”

“The major asset managers, particularly in Australia, will aggressively buy yield wherever they can,” he says. “Away from equity markets, quality yield will be strongly bid.”

Abernethy says the big investors, including pension funds, will be looking to switch into the likes of corporate debt, hybrids, direct property, mortgage fund and mortgage-backed securities.

Abernethy says that self-directed investors need to move quickly and shift into yield assets before yields are crushed by the stampede of big investors.

“If self-directed investors were thinking that interest rates were going to rise in the foreseeable future, it’s not going to happen,” he says. “They can’t rely on the hope that interest rates on term deposits will rise anytime soon”

“Self-directed investors have to utilise their flexibility and move quickly into similar assets before the big funds move more aggressively into direct property, mortgage funds and corporate debt” he says. “SMSFs need to be on the front foot.”

But Abernethy noted that moving away from equities and cash does create additional challenges and risks.

“Investors need to know the risks they are taking on,” he says. “That’s where wealth advice is needed to understand the true risk profile of the investor to ensure that it is consistent with the risk profile of the investment”

“An investor must clearly understand the cash flows coming off each individual investment, its propensity to grow and the risk – even if low – of disappointment. And most importantly, construction of a balanced portfolio must now be more tilted to yield in response to the Fed’s announcement”

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