As a result of discussions from the latest quarterly asset allocation meeting, we have reduced the Australian Equities allocation by 2% for all asset allocations. Having been overweight growth assets and Australian equities in particular for a number of years, we see this as an opportunity to lighten off on this overweight position.

We remain overweight both Australian and international equities for those asset allocations that hold a fixed income component as we continue to see decent value on a relative basis given the prospects of a rising interest rate environment. However, we see a number of catalysts that may lead to a shorter term pullback for Australian equities including:

  • While not hugely expensive, the recent strong rally in Australian markets has meant that already full valuations are looking stretched;
  • While earnings growth is strong in the US market, valuations there are at historic highs and with a looming interest rate increase in December and more to come next year the potential for a pause in the market rally is increased;
  • Domestically the economy is currently enjoying low inflation and low but steady growth, however if a pick up in inflation or a weakening of the dollar on the back of higher global rates forces the RBA to raise rates, the levels of domestic debt, particularly household debt means this will have an outsized effect on the economy;
  • The Big 4 banks which make up over 30% of the ASX100 market are reporting good results, however the boom conditions experienced by these companies during recent times have been replaced by much more challenging conditions including pressure on margins, increased regulatory and political scrutiny and historic low levels of bad and doubtful debts and hence provisioning. With low growth expected for bank earnings this removes a catalyst for a sustained move higher for Australian equities;
  • The removal of historically unprecedented liquidity provided to markets as Central banks globally, led by the US Federal Reserve unwind their bond-buying programs and increase interest rates from their emergency levels

There are a number of positives which underlie our continued positioning in growth assets that may lead to a continuation of rising equity markets including:

  • Sustained economic growth driven by the US and China and increasingly Europe;
  • A large infrastructure spending program and higher commodity prices should continue to underpin domestic economic conditions;
  • Low inflation reduces the need for large interest rate rises; and
  • Sustained and growing dividends mean the asset class remains attractive on an income basis.

To implement this change we have rebalanced a number of holdings across portfolios. While this may result in crystallising some capital gains for investors, consistent with Elston’s focus on after-tax returns, this will be managed across the rest of the financial year with a view to maximising after-tax returns.

If you have any questions please contact us.