Macquarie Specialist Investments (MSI) yesterday announced the launch of the 14th offer of the flagship Macquarie Flexi 100 Trust (Flexi). The current offer provides investors with broad, protected exposure to growth opportunities across US, European, Asian and Australian equities markets.

Flexi allows investors to borrow 100 per cent of their investment amount to gain 100 per cent principal protected exposure to a range of domestic and international opportunities throughout the year. Its unique Walk-Away feature provides investors with the flexibility to exit their investment early without incurring any additional costs should their circumstances or market conditions change. Flexi is the only product of its kind in the market with an ATO Product Ruling, providing many investors with certain interest deductibility.

Co-head of MSI Distribution, Ferdi Kayakesen said, “The strong global thematic of the current Flexi offer is a direct response to overwhelming feedback we have received from advisers and their clients demanding access to key overseas growth areas.”

“Feedback is strengthened by Macquarie Research Equities’ positive outlook on US and European markets, suggesting the increasing relevance and importance of international equities exposure in maximising portfolio growth opportunities.”

“Flexi was developed in the wake of market uncertainty in response to demand for a solution offering investors leveraged upside exposure to diversified sharemarket growth opportunities, but with the security of protection on the downside as well as flexible exit arrangements.”

“With Australian equities accounting for only a small portion of the global economy, this offer allows investors to take advantage of current global growth opportunities and diversify their portfolios. At the same time it provides peace of mind via 100 per cent loan principal protection and the Walk-Away feature.”

The current offer of Flexi is available for investment until Monday 30 June 2014. The minimum investment amount is $25,000, with an optional interest loan available. Flexi offers fixed annual distributions and a fixed interest rate which provides upfront certainty of the holding cost over the term, and may be suitable for individuals and SMSFs.

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Saxo Bank’s outlook for 2014.

Saxo Bank, parent company of Saxo Capital Markets, the online multi-asset trading and investment specialist, has published its first quarterly insight for 2014 looking across both the macroeconomic environment and individual asset classes.

Global overview

Having maintained world growth at acceptable levels throughout the current crisis, emerging Asia will become the world’s primary weak spot in 2014. Investment in that region has reached a staggering 43% of GDP while growth has fallen to barely 6%; the easy part of the growth cycle is long gone, and some emerging market governments are now proactively trying to slow their economies down. This is not necessarily a bad thing for Asia, which needs to cool off and reconsider its economic model; Europe, however, will be hit by the fallout of the troubles facing its best growth market for exports.

Beyond emerging Asia, Saxo Bank expects the global economy to accelerate from 2% growth in 2013 to 2.8% in 2014. This uptick will be led by the US where private consumption and private investment will prove key drivers, pushing growth close to 3%. Tapering will continue as the economy strengthens, which would imply an exit from QE in the second half of 2014.

The Eurozone is on the mend and likely to see growth move into positive territory of 0.8% in 2014, but the outlook for Germany and particularly France remains bleak, the latter having failed to spur growth outside increases in public spending. The two year decline in inflation across the Eurozone is unlikely to reverse meaningfully this year and the argument for additional ECB easing is valid, most likely through a new LTRO.

Steen Jakobsen, Chief Economist at Saxo Bank, comments: “It’s been a long time since the stars of macro indicators have aligned so perfectly. The good news? This is the beginning of the end of this crisis. The 2014-2015 period will see a transition away from quantitative easing and easy money towards better quality growth and, hopefully, a mandate for real change. The world has become so out of balance that things can only improve from here.”

Equities

Peter Garnry, Head of Equity Strategy, underlines the continuing importance of holding equities to see any meaningful capital growth. The relative repricing between equities and bonds will continue in 2014 as total return in equities relative to bonds remains below the equity risk premium line since 1995. He comments: “Don’t pay any heed to those who say equities are in a bubble. If you really want to make the most of your portfolio in 2014, the biggest risk is not being long enough on risky assets. ”

Saxo Bank forecasts a 10 percent overall rise in global equities over 2014. Its top equity picks for 2014 include General Electric, Microsoft and BNP Paribas.

FX

The market is assuming that the Fed will adopt a slow and steady approach to decreasing purchases, and as such the anticipated path is towards a higher USD. However, if markets lose their nerve the USD strength could shift more prominently against the less liquid G10 and emerging-market currencies rather than the JPY and other majors.

John J. Hardy, Head of FX Strategy, adds: “Q1 will see a concerted effort to wean the FX market off QE. The Eurozone could prove a flashpoint, with the peripheral economies ready to rebel if the ECB doesn’t take stronger steps to expand its balance sheet.”

Saxo Bank’s top FX trading themes for Q1 2014 include long USDCAD, long USDJPY and long GBPNZD.

Commodities

Another tough year lies ahead for commodities, with the risk of even lower prices still a possibility. Demand growth has stabilised as economic growth rates in emerging economies, not least China, have declined.

The energy market will have to deal with the possibility of global crude oil supply exceeding demand for the first time in recent memory, thanks in part to the rise in non-OPEC production, and the average price of Brent crude is likely to move lower towards USD 105/barrel. After 2013 saw gold’s first annual loss in 13 years, Saxo Bank is cautiously optimistic for its prospects later in 2014 after averaging 1,225 USD/oz during the first quarter.

Ole S. Hansen, Head of Commodity Strategy, adds: “Raised growth expectations at the beginning of the year carry the risk that investors will once again become too optimistic about the prospects for higher prices, especially in crude oil and industrial metals. Strong January performances over the past three years could therefore be repeated only to be retracted later in the quarter.”

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Mark Burgess

Looking forward to 2014, Threadneedle Investments believes the year will be characterised by the move towards financial markets standing on their own feet again, as the global policy support that has been providing abundant liquidity to markets starts to be withdrawn.

This will mark an important change in the drivers of investment returns:

Mark Burgess, Chief Investment Officer at Threadneedle, commented: “Following many years of liquidity provision from the world’s central banks which supported the performance of ‘risk assets’, 2014 will be about selecting the right investments as the global economic recovery will be put to the test. Financial markets will have to re-engage with reality against a backdrop of significant macro and policy challenges and investors need to be alive to the consequences of this changing environment and subsequent volatility. What happens if QE is withdrawn too quickly? What risks lie ahead if companies don’t deliver earnings growth?”

Equities

“While we remain bullish on equities overall, regional and sector performance will vary significantly. Investors are increasingly shifting their focus away from market liquidity to company fundamentals following the Fed’s announcement in September that it is preparing to start turning off the QE tap. Companies will have to step up their game and earnings will have to pick up significantly if equities are to sustain or even come close to the rally we have seen in developed markets during 2013.

“US company earnings have been at the forefront, having recovered and surpassed their previous peak. We don’t think this year’s returns of close to 30% will be repeated in 2014, but US equities remain attractive. The banking sector is well capitalised and has started lending again, providing a boost to the economy. While the debt ceiling remains a risk, a combination of low energy and labour costs should support company margins into 2014. We think the best performers will be companies in the technology and consumer discretionary sectors.

“In contrast, only half of European companies have beaten earnings expectations so far this year. The region remains beset by relatively poor growth dynamics compared with the rest of the developed world. This year’s stock market recovery could easily herald a false dawn. The banking sector still has a long way to travel to address its capital shortage, although the fundamentals are much improved. While for the first time in three years we believe Europe is likely to return to positive GDP growth in 2014, earnings growth is likely to be steady rather than dramatic. Stock pickers, however, could be handsomely rewarded when concentrating on companies with strong business models, robust finances, experienced managements and ideally dominant market positions.

“While the UK economy is still smaller than it was pre-crisis, we have seen some very encouraging data in 2013 and there could be a surprise uptick in GDP growth of around 2% next year. Unemployment has been falling and there is a likelihood that the BoE’s 7% threshold will be reached in late 2014. The problem is that the positive data has not necessarily translated into domestic profits thus far and companies are likely to end the year flat. On the upside, we have seen a pickup in IPO activity and expect the improved economic backdrop to further drive corporate confidence and activity in 2014. We think the best returns are going to come from industrials and the consumer discretionary sector, with consumption (and housing) having driven the economic recovery to date. However, relatively little economic rebalancing has taken place to date, something that has been exacerbated by the success of the ‘Help to Buy’ scheme and raises questions over the sustainability of the recovery.

“Japan has embarked on a clear and credible path, and ‘Abenomics’ has been transformative. Low interest rates support credit growth and 80% of companies are set to raise base salaries.^[1] More challenges lie ahead but we expect further gains in equities and are overweight in financials and beneficiaries of policy action.”

Fixed income

“2014 will be a year of transition for bonds. The expectation of QE tapering has already led to the end of the bond market rally, although we see no evidence for a rotation out of the asset class as demand from pension funds and banks remains. In sovereign markets, we expect yields to move gradually upwards, with the 10-year US Treasury yield at around 3.5% by the end of 2014. While we may not witness a return to the historic norms just yet, the gap between equity and bond yields should slowly start to normalise, so the “risk-on” stance that has worked well for investors during the last few years becomes less glaring in 2014. In fact, corporate credit as an asset built for a slow growth environment should perform well next year, having already delivered positive returns in 2013. High yield in particular has had a good year and we expect this to continue. Company balance sheets are robust and we see defaults as very unlikely.”

Emerging markets

“Emerging markets are a mixed bag and a wildcard in 2014. The announcement of QE tapering has caused significant headwinds in fixed income assets and concerns over currency volatility and current account deficits remain. Equity valuations are attractive, but history shows that rising US Treasury yields and a stronger US dollar can have a negative impact on EM returns. In addition, GDP growth in countries such as Brazil is unlikely to look spectacular compared to the developed world. On the upside, Mexico points to a year of solid growth linked to the US economic recovery and the country’s lower manufacturing cost base compared to China. While the latter has impressed us with the third plenum, stock picking is going to be of particular importance over the next few years. Equally, domestic markets in Latin America and those emerging market companies that are geared to an economic recovery in the developed world should not be dismissed.”

Commercial property

‘We expect the UK commercial property market to deliver good returns in 2014, as the economic recovery continues to positively impact upon occupational demand. The main beneficiaries should be the South East, as well as logistics and warehousing markets across the country. Top provincial office markets are also showing some signs of recovery. We believe investors will continue to be attracted to commercial property next year and competition for stock will place upward pressure on capital values.”

——————

^[1] Japanese Ministry of Labour and Welfare survey

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In the first half of 2013, developed market equities have outperformed emerging markets, while fixed income has performed poorly, except for high yield bonds, which have benefited from their shorter duration characteristics. After a strong first quarter, risk assets rose through to mid-May before an aggressive bout of profit taking hit most financial markets. The trigger for this was the US Federal Reserve (Fed), which commented that it may ‘taper’ its bond purchase programme if economic data remains strong.

In this regard, the news is good for the US economy, but not so good for those who had expected quantitative easing (QE) to continue indefinitely. On the data front, US car sales have picked up markedly in the past two years and, importantly, housing starts have also improved – indeed, housebuilding is seeing a material uptick, having been a serious drag on the US economy over the past five years. As a result, US growth should continue to outperform the rest of the developed world. The fiscal cliff has also been less of a drag than feared, while the tax take has been better than expected.

The market now expects a US interest rate rise in 2015, about a year earlier than was forecast a few months ago and prior to the comments on ‘tapering’. It is worth emphasising that ‘tapering’ does not mean tightening (as shown in Figure 1 below), but rather making policy ‘less loose’. It is understandable that the Fed wants to begin to unwind QE, given the strength of the US economy compared to the rest of the developed world, and we expect this to happen in $20bn chunks, starting later in 2013. Further support for the ‘tapering’ argument comes from the fact that US inflation is very subdued, despite the pick up in economic growth.

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Chief Investment Officer, Jamie Nicol, said even with recent market volatility, he expects asset allocations to continue to swing away from bonds towards equities.  He warned however, that a focus on quality is necessary to distinguish between those equities that have genuine operating upside as the cycle turns, as opposed to a simple short covering rally. 

“Given risks now seem to be easing and interest rates are low, we expect flows to be supportive of equities.  Additionally, any pullback in the market is likely to be well supported by the amount of money sitting on the sidelines,” Mr Nicol said.

“The last few days we have seen a selloff in growth companies that missed their results expectations and I think this signals we will see a little more dispersion in performance rather than the rising tide lifting all boats that we have enjoyed of late.  However, this also delivers opportunity.”

Mr Nicol said relative to bond yields, equities looks attractive when compared with either the PE of the market or dividend yields. 

“The market is trading at 13.8 times PE, which looks about average and not particularly cheap on an absolute basis (although not expensive either).   However once we compare the market to low interest rates, which look like they are here to stay, the story is very different. In particular, we note that the dividend yields available from companies are in many cases already twice the yield available from bonds and the dividend yield should be growing.”

“Over the last few years investors valued the security of bonds regardless of price. As the risks fade, then the value of holding a bond earning less than half the amount available from equities begins to look questionable,” he said. 

“Investors should also consider the potential of another bond crisis, like the early 90’s, should inflation spike in the US.”
 
In terms of the recent reporting season, Mr Nicol said growth companies, which have enjoyed a strong run, are starting to be sold off where the results did not meet expectations. 

“In some instances we have seen the global growth pick up yet to come through (Ansell); in others we are seeing a simple miss as the businesses mature (Cochlear); and in others, stock specific disappointment (Breville).  Interestingly Healthcare has had a difficult reporting season.  This is a reflection of Governments pulling back spending from the sector and the recent strong run.”

Mr Nicol said there are definitely signs of a pick up in housing and to a lesser extent, media and retail. “In some instances, this has triggered a short covering rally.  For example, we are reluctant to buy JB Hi Fi, given they continue to face structural threats.  Sales of CD’s, DVD’s and games are shrinking as consumers purchase on-line.  The main categories that are growing (Ipads and other tablets) offer lower margins.

“We are seeing a range of companies lift earnings including leaders such as the banks and Wesfarmers.   This is providing a further kick along for these companies, although in my mind, it really just justifies the rally to date.” 

Mr Nicol said good results from CBA and Bendigo highlight the easing funding conditions for banks, which is driving stronger profits.  

“Expected profit growth for the major banks has been lifted a couple of percent.  Strong capital position increases the likelihood of future buy backs and bad loans are easing as interest rates decline.  This increases market confidence regarding FY14. The trends are particularly favourable for the domestic retail banks, hence the strong moves by CBA and WBC.”

Dalton Nicol Reid uses a five-point quality matrix to identify relative quality of listed companies.  This includes balance sheet assessment, industry structure, management strength, earnings strength and ESG (environmental, social and governance).   Research on quality investing has largely focused on the back testing of various quality screens to determine the impact of quality on returns.  On the whole, this research has shown a strong linkage between quality and performance over the medium and long term.

“A quality portfolio will be agnostic to value or growth.   Following a quality investment approach allows us to identify companies that are mispriced by overlaying this quality filter with a strong valuation discipline.  It also allows us to enhance returns by identifying companies when they are out of favour.”

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After all, according to CMC Markets, Snake years have historically been the worst performing in investment market history.

So should investors really take fright and flee from the stock market?  “Not at all,” says Colin Cieszynski, Market Analyst CMC Markets Canada, “even if you really are making your investment decisions based on the Chinese lunar calendar, the reality is that Snake years have been mixed, with a pattern of positive followed by negative returns.  And if that pattern continues, we are set for a positive year in 2013.”

Mr Cieszynski said that the end of the Year of the Dragon has seen stock markets improve significantly. “Indices in the US and the UK are at their highest levels since 2007, and with improving economic data out of the US and China, investor appetite for riskier assets, like equities, is starting to come back,” he said.

But with the last Snake year, from February 2001 to March 2002, the worst Snake year ever for all markets, except Australia, can the curse of the Snake be avoided this year?

“We certainly think so,” says Mr Cieszynski.  “Part of the reason for the dire results in the last Snake year was the market sell-off post 9/11, so we shouldn’t read too much into it.”

“And the positive economic signs we are starting to see now have also produced a move by investors from defensive plays into equities, and this seems likely to continue.”

Mr Cieszynski explained that the biggest risk facing stock markets at the moment is also one of the reasons stock markets have been rallying. He said that QE3 in the US has been adding money at a rapid rate into the financial system in the US, and based on the experience of QE1 and QE2, it is likely that this hot fast money is artificially inflating stock and commodity prices.

“And we all know that what goes up must come down. Once QE1 and QE2 were completed, we saw a 10% correction in stock markets around the world.”

Mr Cieszynski concluded by saying that QE3 was a little bit different from QE1 and QE2 in that no end date has as yet been specified by the US Federal Reserve. “So depending on when the Fed decides to turn off the tap, investors may well find themselves well and truly bitten by the Snake this year, or even trampled by the Horse in 2014,” he said.

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So when people say that a bond market bubble is inflating today – and quite a few are doing just that – my initial response is not to panic. Investment trends tend to last much longer than logic suggests they should. And as the famous economist John Maynard Keynes said, “The market can remain irrational longer than you can remain solvent”.

However, several stories in the past week or so have made me less confident.  First, I read that Britain’s pension funds now hold more of their assets in bonds than in shares. This has not been the case since the 1950s when the so-called “cult of the equity” began.

Investors have not been this gung-ho about fixed-income for 60 years.  Second, I saw that America had experienced its biggest ever week for inflows into bond funds, a total of US$9.4 billion. This was almost matched by the US$9.0 billion that flowed out of equity funds in the same week.

Finally, I noted that the yield on German government bonds had fallen to 1.3%, almost as low as it has ever been. At that level, investors are swapping a reduction in the real, inflation-adjusted value of their savings for the reassurance of knowing they will get their money back.

Something quite unusual is going on. Either the world has changed completely and investors will be content with derisory yields in perpetuity or they are setting themselves up for a disappointment. None of us who have lived through the lost decade for shares since 2000 want to repeat the trick with our bonds.

Figures from the Investment Management Association confirm that it is not just government bonds that are popular today. They show that in eleven out of the last 12 months more money has flowed into corporate bond funds than into any other sector.

The traditional homes for ordinary savers’ cash – UK and European shares – have been the least popular sectors over the same period.  In Australia, over the past three years, managed funds have seen some AU$14 billion in outflows from Australian equities, whereas Australian fixed interest has had net inflows of more than AU$2 billion over the same period.

It is not hard to see why investors are attracted to corporate bonds. In an environment of extremely low interest rates, it is almost impossible to achieve a decent income from a deposit account. To achieve an acceptable return on their money investors have to take some more risk. And bonds issued by the biggest and safest companies certainly look much better value than those issued by most governments.

The question for me is whether investors are right to have favoured bonds over equities. I think they have done so for a good reason – because they think bonds are intrinsically safer than shares – but  in doing so they may have under-played some important risks.  There are four principal dangers:

• The first is that the state of the economy could continue to deteriorate, pushing up the rate of company failures. If this happened investors might demand a higher yield to compensate them for the risk that they might not get their money back. For the yield on a bond to rise its price must fall. Existing holders would lose some of their capital in this case.
• The second risk is that the economy could pick up faster than expected. If this were to happen, central banks could raise base rates from their current 300-year low. Again, prices would fall.
• The third danger is that investors could all fall out of love with bonds at the same time. Fund managers might struggle to find sufficient buyers in such a situation, which could destabilise the market.
• Finally, there is the hidden risk of inflation, which many experts think might be the inevitable consequence of the quantitative easing or money printing of the past few years. Inflation is the enemy of bonds.

So what should investors do? First, I think they should look into whether their desire for income and security might not be just as well met by investing in high-dividend paying shares.

A balance of equity income and fixed income looks safer to me. Second, they should make sure that any bond funds they invest in have the flexibility to move between different parts of the fixed income universe. Not all bonds are created equal and a good manager will know where the value lies and, crucially, where it does not.

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The Dow Jones Industrial Average dropped 22% and the Australian All Ordinaries Index plunged 25% that day.
With the 25th anniversary of the Black Monday stock market crash approaching, Fidelity highlights lessons that planners and investors can draw from the event.

Lessons of the 1987 crash are clear – don’t panic. “There is little danger of history repeating itself on the 25th anniversary of the 1987 stock market crash, says Tom Stevenson, Investment Director at Fidelity Worldwide Investment.

“Recalling the run-up to Black Monday, I’m struck by the different world we inhabited a generation ago. Amid today’s market woes, it is hard to remember the mood of confidence in the first half of 1987. Investment, in particular new issues, was all the rage. New company floatations were oversubscribed and shares opened at more than double launch prices.

“The sudden turn-around in sentiment saw Wall Street suffer its worst fall and parallels were drawn with the Great Crash of 1929. Looking back on the 1987 crash today, anyone who wasn’t there might wonder what all the fuss was about.”

Mr Stevenson says: “The lessons remain as relevant today as they were 25 years ago.

“If you invest steadily and regularly, you will find yourself obliged to buy into the market precisely when the opportunity is greatest but your mind is telling you to do the opposite.

“Reinvesting dividends as part of a “buy and hold” strategy can make even the most volatile of markets look like a steadily-rising elevator in the long run.”

Lessons that planners and investors can from the event include:

1. Look through the market gyrations to what is happening in the real world. The 1987 crash was triggered by over-exuberance (the market had risen by nearly 40% in the first nine months of 1987) and was then compounded by automated computer trading. The underlying economy was sound at the time – hence the quick recovery.
2. Invest regularly, a little at a time. This way, you will take advantage of market falls like the 1987 crash, picking up a few shares or units in a fund when they are cheap – even though your mind is telling you to put your money under the mattress.
3. Re-invest your dividends. Use compounding – put dividend income back to work in the market.
4. Keep calm – markets ended 1987 higher than they started and within two years had surpassed pre-crash peaks.
5. Take a long-term view. The 1987 crash looks insignificant on a long-term chart today even though, at the time, it felt like the end of the world.
6. Don’t put all your eggs in one basket. I was in Hong Kong at the time of the 1987 crash – the market there shut for a week, emphasising the point that emerging markets can sometimes be markets from which it is difficult to emerge in an emergency.
7. Don’t try to time the market. When your emotions are running high you may not make the best investment decisions.
8. Keep some of your powder dry. Crashes happen, and when they do you want to have some ammunition ready to take advantage. It may be frustrating to have even a small proportion of your savings earning next to nothing in cash when shares are rising, but so too is being unable to capitalise on bargain basement prices when they appear.
9. Beware of buying high and selling low. Remember that the stock market is the only market in the world in which we prefer to buy when prices are high and are put off by low prices. Think about how you would buy fruit and veg at a street market. You would behave in exactly the opposite way.
10. Watch costs, but worry more about value. The difference between the charges on an actively-managed fund and a tracker might be 1% a year. If you back the right manager, however, that might be the best 1% you ever invested.

This document is issued by FIL Responsible Entity (Australia) Limited ABN 33 148 059 009, AFSL No. 409340 (“Fidelity Australia”).  Fidelity Australia is a member of the FIL Limited group of companies commonly known as Fidelity Worldwide Investment. Prior to making an investment decision, retail investors should seek advice from their financial advisers. Investors should also obtain and consider the Product Disclosure Statements (“PDS”) for any Fidelity fund mentioned in this document. The PDS can be obtained by contacting Fidelity Australia on 1800 119 270 or by downloading from our website at www.fidelity.com.au. This document may include general commentary on market activity, sector trends or other broad-based economic or political conditions that should not be taken as investment advice. Information stated herein about specific securities is subject to change. Any reference to specific securities should not be taken as a recommendation to buy, sell or hold these securities. While the information contained in this document has been prepared with reasonable care, no responsibility or liability is accepted for any errors or omissions or misstatements however caused. This document is intended as general information only. The document may not be reproduced or transmitted without prior written permission of Fidelity Australia. The issuer of Fidelity’s managed investment schemes is FIL Responsible Entity (Australia) Limited ABN 33 148 059 009. Reference to ($) are in Australian dollars unless stated otherwise. ©  2012 FIL Responsible Entity (Australia) Limited.  Fidelity, Fidelity Worldwide Investment and the Fidelity Worldwide Investment logo and F symbol are trademarks of FIL Limited.

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The key points are as follows:

• Global growth is likely to be in the process of bottoming ahead of a pick up next year. The risk of a Euro-zone meltdown is receding, more monetary easing is also likely to keep the US recovery going and at the same time Chinese growth should soon pick up a bit.
• While shares may see short term volatility the combination of a stabilising global growth outlook, cheap valuations and easy global monetary conditions point to further gains by year end and into next year.
• Meanwhile, Australian economic data released today showed a slight improvement in both consumer confidence and dwelling starts. However, the trend in both is soft.
• Consumer confidence rose 1.6% in September, but the level of 98.2 remains sub-par relative to longer term averages and is little different from when interest rates started to come down late last year.
• Dwelling starts rose 4.6% in the June quarter, but this followed a sharp fall in the March quarter and was driven by a rebound in volatile multi unit approvals. Housing starts continued to soften.

Our view remains that interest rates in Australia remain too high to drive a decent pick up in non-mining activity at a time when the mining boom is starting to lose momentum. As a result we continue to see the RBA resuming rate cuts in the months ahead. 

To read the full report, click here.

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The latest headlines are not often the best indicator of the direction of the market, as investors look to the future while economic statistics focus on the rear view mirror. They can tell different stories at the same time.

Dominic Rossi, Fidelity’s Global Chief Investment Officer for Equities, has been bearish on equities for the past 18 months or so, believing correctly that shares were unlikely to go anywhere as long as there were large and unquantifiable obstacles to their progress in the form of the banking, economic and sovereign debt crises.

So I was intrigued when he recently told me that he now sees growing evidence for cautious optimism on the part of equity investors.

The thrust of his argument is that the key risks to equity markets – bank deleveraging, policy inaction and political risk with regard to Europe, and commodity prices – have all now been recognised by investors and so priced into the valuation of markets. It is not that they have disappeared – they haven’t – but their capacity to shock the markets has been dramatically reduced.

As investors have taken on board all the myriad problems facing the global economy they have positioned themselves accordingly.

As any contrarian investor knows, generalised distrust of a market like this is very often the trigger for a rally. Only when you get to this stage have all those wishing to exit the market already done so. When no-one wants to invest in equities any more there are no more sellers to drive prices lower.

Dominic points to a handful of reasons to be positive. He points to interest rates, which have been declining for some time, and more generally to expansionary monetary policies which have pushed the yields on longer-dated bonds to very low levels. This, in turn makes a compelling case for equities because, across the board, they now offer higher dividend yields than their respective bond markets.

Another reason is a technical one: markets have shown signs over the past few months of finding support at key levels. There is an unwillingness to push prices lower. This has reduced volatility.

Finally, and this is the most interesting point I think, the leadership of market rallies has changed. Markets are no longer being led upwards by sectors that traditionally do well when confidence returns – like commodities and banks – but by mainstream sectors like consumer discretionary, pharmaceuticals and technology, relatively dull sectors with steady dividend streams that offer investors a store of value.

In other words, investors are buying shares for the right reasons, because they offer income and security rather than the promise of a quick return.

When you look around the world, there is a huge amount of value available in these types of companies.

Does this mean we are out of the woods? Absolutely not.

There are still considerable risks – a slowing economy in China, the yawning budget deficit in America and the ongoing eurozone crisis to name just three very obvious ones.

But importantly the reasons to sell equities have become the conventional wisdom and that is very often a great time to start thinking of reasons to buy them instead. 

This document is issued by FIL Responsible Entity (Australia) Limited ABN 33 148 059 009, AFSL No. 409340 (“Fidelity Australia”).  Fidelity Australia is a member of the FIL Limited group of companies commonly known as Fidelity Worldwide Investment. Prior to making an investment decision, retail investors should seek advice from their financial advisers. Investors should also obtain and consider the Product Disclosure Statements (“PDS”) for any Fidelity fund mentioned in this document. The PDS can be obtained by contacting Fidelity Australia on 1800 119 270 or by downloading from our website at www.fidelity.com.au. This document may include general commentary on market activity, sector trends or other broad-based economic or political conditions that should not be taken as investment advice. Information stated herein about specific securities is subject to change. Any reference to specific securities should not be taken as a recommendation to buy, sell or hold these securities. While the information contained in this document has been prepared with reasonable care, no responsibility or liability is accepted for any errors or omissions or misstatements however caused. This document is intended as general information only. The document may not be reproduced or transmitted without prior written permission of Fidelity Australia. The issuer of Fidelity’s managed investment schemes is FIL Responsible Entity (Australia) Limited ABN 33 148 059 009. Reference to ($) are in Australian dollars unless stated otherwise.  2012 FIL Responsible Entity (Australia) Limited.  Fidelity, Fidelity Worldwide Investment and the Fidelity Worldwide Investment logo and F symbol are trademarks of FIL Limited.

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