Matthew Lemke

The RBA may have raised interest rates, but growing inflation has left cash investors so far behind they are unlikely to see the benefits from rate rises for some time, according to Matthew Lemke, fund manager (income funds) with boutique investment house Prime Value Asset Management.

“There is currently a huge gap between the inflation rate and the cash rate. The problem is that investors may need to temper expectations on rate rises and hence the catch up to inflation may not occur.

“There needs to be plenty of rate rises before cash investors enjoy meaningful returns, and it’s unlikely banks will pass rate rises on in full to depositors.

“Then there is the inflation question – it seems inflation is being fuelled from the supply-side rather than the demand-side, which may temper the RBA hikes. My expectation is only for a mild tightening cycle, certainly not the aggressive slew of rate hikes envisaged by the market.

“But an inflation rate of over five per cent while the official cash rate is under one per cent means cash investors are seeing their funds go backwards in real terms at increasing speed.”

Mr Lemke said CPI measuring 5.1% for the 12 months to 31 March 2022 was particularly hard on savers and cash investors. “Cash investors are now paying a very high price for safety. Bank savings accounts commonly pay around 0.25%, while inflation was 5.1% for the year to the end of March 2022, a 4.85% difference.

“Taking CPI, it means that if an investor deposited $100,000 into a typical savings account in March 2021, that money now buys $95,150 in real terms in March 2022.”

Lemke says alternatives to cash investments, such as diversified income investments, could help cash investors to stay ahead of inflation – if they are prepared to consider more risk. “The question over risk tolerance becomes more challenging for investors as inflation continues to spike”, Mr Lemke said.

Lemke manages the Prime Value Diversified High Income Fund, an income fund which has paid $0.42 per unit per month since inception, delivering 5.45% per annum to investors after fees since inception in August 2019.

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Matthew Lemke

The rise in global inflation is making it harder for income investors to preserve capital, according to a fixed income expert.

Investors may need to look for cash alternatives as inflation accelerates, according to Matthew Lemke, fund manager (income funds) with boutique investment house Prime Value Asset Management. “This is becoming more relevant as inflation rises globally with supply side shortages and bottlenecks due to the pandemic.

“While this may be a short-term blip, a return to more normal economic activity will see inflation move progressively higher longer term, which will erode investor savings.”

Lemke said investors benefited from having some stability in their portfolios, but this was now harder to achieve using traditional asset classes. “Investors are being let down by ‘no risk’ traditional cash holdings, which are going backwards against inflation.”

An emerging alternative for investors is diversified income or cash enhanced funds, which diversify across unlisted securities to deliver above inflation returns at the lower end of the risk spectrum.

“Quality, diversified income funds can provide more stability. They provide important ballast to a portfolio over time whilst earning an above-inflation return.

“This protects the real value of hard-won savings.”

Mr Lemke said such funds were becoming more popular with investors looking for a middle ground between cash and more volatile assets. Lemke currently manages the Prime Value Enhanced Income Fund, which aims to return the 90 day Bank Bill/Swaps (BBSW) rate plus 2% net of fees.

The Prime Value Enhanced Income Fund returned 3.26% net of fees for the 12 months to 31 May 2021. It is currently ranked top performer among its ‘cash enhanced’ peers for performance over three months, one year, and five year time periods, according to Yield Report.^[1]

Since inception the Fund has delivered a 2.94% return per annum, net of fees, for the period ending 31 May 2021. When franking credits are included, the net return increases to approximately 3.45% per annum.

Lemke also manages another income alternative with a different risk profile, the Prime Value Diversified High Income Fund, which aims to achieve 5% per annum returns and has achieved this since inception in 2019.

Boutique manager Prime Value Asset Management was founded in 1998 and is part of an investment group including Shakespeare Property Group, managing equities, income securities, direct property and alternative investments.

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[1] https://www.yieldreport.com.au/category/managed-funds-all/cash-monthly-performance/

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Matthew Lemke

Income investors have been given a clear message from the RBA that cash returns will become worse before they get better, according to an income investment expert.

Matthew Lemke, portfolio manager for boutique investment manager Prime Value Asset Management, says the RBA’s October rate cut, coupled with its latest statement, suggests income-directed investors need to consider other strategies aside from the traditional cash vehicles for income.

Mr Lemke said: “The RBA is unashamedly cutting rates to get unemployment down, and will presumably not stop easing until it sees the unemployment rate closer to the ‘full employment’ rate, which is now defined as an unemployment rate of 4.2% (currently 5.2%). The previous ‘full employment’ rate was 5%.”

He said income investors should be alarmed about forecasts suggesting negative interest rates in Australia, and quantitative easing. “Income investors should find this absolutely startling, and consider other options for a fair and decent interest rate on their savings.”

The latest RBA statement suggested Australia, like the rest of the world, has a ‘savings problem’, in that we are saving too much and not spending on investment. Yet Mr Lemke said monetary policy is not being used to protect savers, in fact quite the reverse.

“This is very much a ‘savers beware’ situation for the foreseeable future. The dilemma for savers is how to recover yield but not add unplanned and uncomfortable risk.

“There are options aside from term deposits and other cash vehicles to boost income returns.”

Mr Lemke said income-focussed investors might consider cash enhanced vehicles, which can outperform cash by investing in prime securities on the professional securities market.

“Income-focussed investors can outperform the RBA cash rate without dramatically increasing their risk profile. But they need to be aware that not all cash enhanced strategies have the same level of risk.”

Mr Lemke’s Prime Value Cash Plus Fund has outperformed its peers since 2014 with low risk. The Prime Value Cash Plus Fund has delivered investors a 4.8% net return including franking credits for the year to 31 August 2019, and has delivered a net 4.2% per annum, including franking credits, since June 2014.

Prime Value added to its enhanced cash funds on 1 August 2019 when it launched the Prime Value Diversified High Yield Fund, which aims to deliver 5% annual income returns to investors.

Boutique manager Prime Value Asset Management is part of an investment group including Shakespeare Property Group, managing in excess of $1 billion across equities, cash plus, direct property and agriculture investment.

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These strategies are more relevant because they can outperform the cash rate without taking on big risks or sacrificing liquidity, says Matthew Lemke, portfolio manager for the top performing Prime Value Cash Plus Fund. “Cash enhanced vehicles can outperform cash by investing in prime securities on the professional securities market.

“But investors need to understand different cash enhanced vehicles will have different risk profiles.

“It’s possible to keep risk down yet still outperform the rate available on Term Deposits and other cash investments by targeting selective securities issued by major banks and financial institutions, and having a strong focus on capital preservation.”

Mr Lemke said investors across the spectrum are concerned about falling interest rates and looking to enhance their cash positions. “We’re seeing interest in cash plus strategies from high net worth investors, SMSFs, not-for-profit groups, schools, councils and charities.

“This interest will only grow in the next few months due to rate cuts and a fundamental shift in the RBA’s reasoning – the RBA now considers Australian economy’s ‘full employment’, level to be 4%, when it was previously thought to be 5%.

“With unemployment at 5.2% and inflation well below the RBA’s target 2-3% band, the Australian economy had significant spare capacity, warranting the rate cut, with more likely.

“The significance for investors is Australian interest rates will stay lower for far longer than anyone expected. Investors will be under even more pressure to find ways to replace lost income from cash holdings.

“Investors all have one thing in common: a desire to avoid going backwards in traditional cash investments without taking on too much risk, and a desire for a liquid vehicle without costly ‘break’ provisions, as is common with term deposits.”

The Prime Value Cash Plus Fund is currently outperforming its peers across both one year and three year investment periods, since launching in June 2014: The Prime Value Cash Plus Fund has a low risk profile and has delivered a 4.23% return per annum net of fees over the three years to 31 May 2019, and 3.70% net of fees for the 12 months to 31 May 2019.  This compares against the RBA’s 1.5% average cash rate over the same three year period.

Boutique manager Prime Value Asset Management is part of an investment group including Shakespeare Property Group, managing more than $1.5 billion across equities, cash plus, direct property and agriculture investment.

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