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India versus China: A race that looks like it is already won. Why India could be a powerhouse

By | Economy | No Comments

It should not come as a controversial statement (at least within the context of this article) that the world is set to suffer from a slowing-population problem as well as an ageing population problem.

We are already seeing the growth rates slow drastically across key economies, which is mostly due to a combination of a falling birth rate (less people choosing to raise large families) and a slowing death rate (people living longer). The migration rate also plays an important role, although is variable depending on the country in question.

India is a stand-out over the next 15 years

Overall, India remains well placed in absolute terms, with their population expected to grow at approximately 1.0% for the 2016-2030 period. To put the importance of this in context, China appears set to see its population growth slow to just 0.2% as a consequence of their historical one-child policy (the change in policy is not expected to help for decades), and worse still, is set to fall nominally in 2026. Australia remains quite small and nimble on a global scale, and despite an overall population increase from 7.4 million in 1945 to close to approximately 25 million today, is expected to continue growing close to 0.9%pa over the coming 15 years.

India versus China is looking like a one-sided issue

The population trend between China and India is remarkable, although needs to be considered in the context of household spending if it is to impact economic growth.

In India, the population trend is one of the best globally, which works very well given the structure of the economy, whereby household spending accounts for 58.0% of GDP (more than Australia but less than the USA). It could also be argued that India are set for greater household effectiveness, especially given the low GDP per capita baseline (relative to mature economies) and an intense focus on education standards. On this basis, it seems to be a glaring opportunity for Australia to redirect its exports; however, this won’t be without challenges as India is far more self-reliant than China and does not have the same need for iron ore or coal.

China on the other hand, has a far worse population trend despite the scrapping of the one-child policy. However, it is also important to realise China are far less reliant on household spending to drive economic growth. In fact, Chinese household spending accounts for only 37.4% of GDP, meaning a falling population may have a smaller impact if trade continues to grow. There is also scope to grow GDP per capita by a significant margin, which could add to total GDP beyond the concerning population trend.

Deeper analysis of the working population

An added advantage for India is that they have a young population. This means more workers and less retirees, which by extension implies a greater ability to earn more income and hence increase household spending. There are many ways to explain this concept, but one of the most important from an investors perspective is to view the ‘prime’ working population, defined by 45-64 year olds. Some people are calling this the “peak spender theory”.

 

What can we learn from the above?

Based on this evidence, a falling population growth rate could have substantial implications for the future economy. A living example is Japan, where a falling population has created the “lost decade(s)” despite some of the strongest growth rates in GDP on a per capita basis. For many of the key economies, including the USA and China, this falling population growth rate could have material implications and be deep-rooted as a structural headwind to long-term growth.

Whether this causes an economic disaster is a much harder question. On face value, there is enough evidence to suggest that falling population growth rates are severe enough to substantially increase the risk of an economic demise. This logic follows the path that lower growth increases the risk of periodic recessions and hence creates potential for social unrest and debt-fuelled policies (we are already seeing this in the USA, Europe and Japan).

However, there is insufficient evidence to suggest the inevitability of an economic demise on the basis of population trends alone. On this note, it is important to reiterate the difference between a falling population and a falling growth rate in the population. The latter is far less severe, which would explain the difference between Japan (which has suffered a falling population), versus the USA (a slowing growth rate).

 

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We have an unprecedented rise in the over 65 age group and our working population is growing at a more modest rate. This article will detail the real problems we face and how you can profit from it.

Evidence for the long-term: economic growth could increase until 2026 then slow thereafter

By | Economy | No Comments

If Brexit and Donald Trump have taught us anything, the world is getting tired of the slow growth status-quo. According to exit-polls from the USA election, the biggest reason for voter dissatisfaction is the state of the economy.

While it is not exactly clear what voters expect to see from the economy (unemployment is near cyclical lows and both economies have been recession free for several years), what is clear is that people are desperate for greater wage growth and GDP growth at a household level.

Therefore, we are digging under the hood of this economic concern by looking deeper into the population statistics. What we find is not particularly favourable in absolute terms, although we find that Australia and India are better placed than most. As a part of this analysis, we conclude Donald Trump is pushing uphill to “double the growth rate” as he suggests.

Is there a link between the population and economy?

The real economy relies heavily on population growth; both logically and practically. There are many ways we can verify this importance, however one of the best ways is to illustrate it over the very long-term by showing the 20-year trend of the economy, household spending and population growth. This is an effective method because it massages out economic cycles and shows that all three are intricately linked and generally mean-reverting in the long-term. Below is the case for Australia, showing a strongly aligned relationship.

The unemployment rate will be a critical factor to household spending in the short-term, however is generally seen to be cyclical. Therefore, while an unemployment spike is very likely to coincide with an economic downturn, over the very long-term it gets largely massaged out as excess capacity shifts in waves. Similarly, household savings could have a material impact in the medium term, as people spend more or save more depending on the state of the economy. However, in the very long-term this can also be expected to remain somewhat cyclical.

Employment considerations should be contemplated more broadly though. With an ageing population and extended life expectancies, we can anticipate that the percentage of the elderly workers will increase (as in the case of Japan). We may also see a higher percentage of individuals enter the workforce (especially in countries with a low female participation rate), which could provide further upside. These factors all materially impact the growth outlook.

What does it mean going forward? Why slow-growth may be the new-normal after 2026.

Using population and peak spender logic, we can illustrate the “population effect” and the added “ageing population effect” as per the chart below. This uses the Australian Bureau of Statistics expected population projection (accounting for expected changes in birth rates, death rates and an estimate of net migration) and is adjusted for the “peak spender theory” in the dark blue dotted line. We find the ageing population is expected to support the Australian economy in the short-term but will slow thereafter.

 

Take it as a grain of salt

While our analysis is a brave attempt to provide clarity and logic to an uncertain dynamic, it should not be considered a guarantee by any means. It must be understood there is significant scope for error. To provide full transparency on the scope for error as we see it, below are some of the points worth considering.

First and foremost, the entire premise of this analysis is that the economy and household spending are intricately linked. If this breaks down, the accuracy of the analysis breaks down. While we are confident in the link remaining to some extent (there appears no logical reason it wouldn’t), the reality is that household spending accounts for 55% of GDP which leaves 45% unaccounted for. Therefore, if we see a period of structural change in the remaining 45%, GDP could move markedly from the population trend.

There are also significant risks to any changes in what we’ve labelled as “household effectiveness”. The pace of innovation and technological development continues to drive progress at a household level, but our assumption this will continue at approximately 2% has inherent scope for error. Whether it is 1%, 2% or 5% is anyone’s guess in a world of robots and driverless cars.

The projection data is also subject to potential error, as birth rates or migration rates could change between now and 2100. There are also event risks, such as a world war that could materially impact both population numbers and household spending. A major asset market crash could have a similar impact and interrupt the trend significantly to the downside.

Lastly, from a technical perspective we have considered GDP in real terms throughout our analysis, meaning inflation has been discounted. The reason is that the relationship between population change and inflation is complex, due to the interaction between money supply and the velocity of money. Withstanding this, any period of hyper-inflationary or deflationary conditions could create further inaccuracies.

 

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Long-term banking concerns: high existing debt levels must logically limit loan growth

By | Share-Market | No Comments

With the banking sector changing under our feet and global trade in slowdown, it should come as little surprise geopolitical tensions are high and shareholders are questioning the longevity of company earnings. Specific to the major banks, we have witnessed one of the strongest and longest periods of loan growth in history which has pushed household debt levels to record highs.

As a general rule, none of this would typically portend to be beneficial for banks in a forward looking context. However, balancing the questionable long-term outlook is a potential tailwind from rising inflation expectations, which have the ability to increase net interest margins and thereby profitability.

The Long-Term Backdrop for Traditional Banking is Ominous

One needs to ask themselves how much scope for future growth is available in the major banks given high existing debt levels. One way to illustrate this is to provide a global perspective, which shows Australian banks growing household lending at a very healthy rate of 6.2% against the headwind of the highest existing debt levels in the world. This lending has increased in importance as it accounts for approximately 60% of total lending – as opposed to commercial lending (data is at 31 October 2016).

This creates a sense of nervousness for people that explicitly focus on the dividend yield and forget about the cash-flow that finances the dividends. It is worth considering how much more leveraged Australian households can get, especially as the average household is getting older.

The secondary consideration is value. Below is an extract from our November 2016 edition showing the valuations of the broad financials index excluding property. We can see the sector appeared modestly overvalued on the metric below, however would need to be balanced with alternative valuation methodologies.

 

 

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It’s not (totally) the baby boomers fault: Why the working population matters most

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Australian stocks are up 63,338% since 1900. This chart shows why long-term investing is not gambling

By | Headline Article, Lifestyle | No Comments

The life of an investor inevitably involves periods of frustration and can prove to be an emotional experience for many – whether it involves shares, property or bonds – as we navigate the ups and downs of the economic cycle and the impact this has on our portfolio value. For this reason, some broad perspective can help appease these concerns and focus on the underlying objective of investing.

Are you an active investor? Are you a buy-and-hold investor? Or a reasonably balanced individual that wants to participate in the upside but avoid the major setbacks that occur from time to time?

long-term-chartAustin Donnelly was a great advocate of these perspective pieces, as they should instil a longer-term mindset. In the past 100+ years, we have faced two world wars, a great depression and multiple recessions. Yet, despite all of this, the market continued on a reasonably stable trajectory.

In fact, the market went up 63,338% excluding dividends in the past 116 years (equal to approximately 71% every 10 years). This is despite the fact it experienced 10 “crashes”, defined as falls of over 20%, meaning approximately once every decade anyone that was fully invested had to stomach up to a 20% loss to their life savings. Of course, there are techniques available to reduce the drawdown risk (such as diversification to negatively correlated assets) or one can attempt to identify the risks in advance and avoid the losses altogether.

Today’s concerns are arguably similar, as we face the short-term issues of a US election, US debt ceiling negotiation, an Italian vote, the Brexit process and Chinese debt concerns. We also face the long-term issues of an ageing population, high household debt levels, a seemingly elevated property market and technological change that can have a material impact on investment values. crashes

The truth is that there are no guarantees in financial markets. The best we can do is make reasonable assumptions on the best path forward and retain conviction throughout the noise and inevitable periods of market panic.   

Therefore, as an investor, it helps to consider in advance whether you have the knowledge and temperament to identify these risks in advance (plus a willingness to act on your conviction when most people remain optimistic) or whether a buy-and-hold strategy is more akin to your style.

Knowing that most people wish to avoid crashes, we provide a framework that hopefully helps you to identify the key risks and position accordingly. However, just like the 1987 crash or the 2008 financial crisis; the timing and depth of a crisis is often a great unknown. In the end, intelligent investing requires temperament and deep analysis – in that order.

 

 

 

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Worried about a property crash? These nine facts answer it better than most…

By | Investing Times News, Lifestyle, Recommended by the Investing Times | No Comments

IMG_2386What causes a property market to crash? Is it a falling economy? An unemployment outburst? A building oversupply? Should we concentrate on consumer confidence data? Or is it as simple as common-sense about supply and demand?

There has been a long-standing fear that Australian property could tumble, with some of the world’s most renowned investors (Jeremy Grantham and Robert Shiller included) claiming the valuation metrics for Australian property appear distressed or weak. However, these investors have been proven wrong again and again.

It raises an interesting point about the real drivers of residential property. The Investing Times tracks nine key supply and demand data indicators to answer this question, and while we acknowledge is not a crystal ball, it does seem a useful proxy in a world of excessive fear-mongering and ignorance.

Here are nine metrics you might want to add to your watch-list if you are interested in the wellbeing of the property-market. For strong future returns, you want to see:

  1. Rental yields strong relative to interest rates (differential less than 1.5%). Positive (Current stance) 
  2. Overall employment growth above long-term average. Negative
  3. New building growth sustainable relative to the population (between 1-2x population/building ratio). Negative
  4. Total housing market sustainable relative to size of the economy (housing stock to GDP ratio less than 300%). Negative
  5. 5-year price growth at sustainable levels (equal to or less than nominal GDP). Negative
  6. Recession risk low (yield curve positive). Positive
  7. Overseas arrivals increasing (six-monthly trend change). Neutral
  8. Lending growth expanding (home loans and other credit) above long-term average. Positive
  9. Rental income growth exceeding inflation (YoY change). Negative

Property marketSaid another way, for a crash to occur, we should be able to identify it because the catalyst is likely to be rising unemployment, falling migration rates, a recession, an interest rate spike, or a realisation that prices are simply too expensive relative to the size of the economy. And as can be seen in the chart, the strength of the data has a strong correlation to the future 5-year outcome.

Of course, this could be narrowed on a state-by-state level, or suburb-by-suburb level, and would make the research even more relevant (eg. Sydney and Perth have very different dynamics currently). However, using the weighted average of the 8 capital cities is still useful for the overall health of the property market.

Is a property crash likely in the next 5 years? With the current scenario showing only 3 of the 9 indicators positive, the data tells us there is an increasing reason to fear for the wellbeing of the property market in the short-to-medium term; although any calls for a crash would appear premature – at least for now.

One reason for continued demand is record low interest rates – especially relative to rental yields – and this is unlikely to change in the near term. Another reason is offshore demand, although the official numbers have shown overseas arrivals have stagnated since the currency fell below $1.00 in mid-2013, this currency drop has made Australian property 25% cheaper for an offshore buyer.

Therefore, while the general supply and demand outlook of property fundamentals has deteriorated over the past year, there are still healthy demand drivers. Overall, the data seems to illustrate there is a basis for growing caution, with the overall score  significantly lower than we have seen on average over the past 20 years, which may point to lower average returns and/or marginally increasing risk (although this should be no surprise).

What do you think of the supply and demand backdrop? What other factors would you consider? It is a healthy debate worth having.

Please note, this will be a regular feature in the Investing Times reports, so if you are interested in seeing more data like this (we run a similar model on the share-market with similarly strong correlations) then please request a free trial report below. We also have a range of other thought-provoking articles available at www.investingtimes.com.au or encourage you to subscribe at www.investingtimes.com.au/subscribe

Trial today

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Shares vs property: Which will win over the next 5 years?

By | Headline Article, Share-Market | No Comments

DSC00808 (640x480)What is going to the best investment over the next five years? Shares, property, cash, gold, hedge funds, bonds, commodities or an alternative asset? This is a question with significant scope for error, however the drivers of supply and demand are a good place to start.

The Investing Times has helped readers assess the risk and return landscape of the share-market and many other opportunities for more than 45 years on the basis of supply and demand, however has never before released research on whether shares or property are likely to be the better investment – until now.

This research is intended to push forward our contribution to value-based investment research, and as such we have compiled a summary of the findings as well as inviting readers to download the full report at the end of this article.

History shows property has been the winner

Looking back through recent history, it should be little surprise that Australian bricks and mortar have outperformed shares. In fact, Australian residential property has outperformed shares in 73.8% of rolling 5 year periods over the past 15 years and in 55.0% of periods since our records commenced 30 years ago (capital returns). This is despite having 34.3% less risk over the past 15 years and 23.8% less risk over 30 years (standard deviation).

Shares v property 1The fact Australian property hasn’t even experienced a negative 5-year return since 1986 has led numerous Australians to form a view that property is a safe bet. This view may or may not prove to be misleading over the next 30 years, however international perspective shows it isn’t always a one-way street.

In addition, even in Australia shares have outperformed property significantly at different times in the cycle. For example, we can see that the period from 1990 to 2000 and 2003 to 2007 was a prosperous time for shares, whereas the period from 2000 to today has been a generally golden period for property.

The big question is not whether one asset-class in permanently better than the other – we know for a fact they both have the ability to produce significant wealth gains and will produce different results depending on the stage of the cycle. The big question is whether it is possible to determine the times when one is better than the other using value metrics including supply and demand fundamental analysis.

What drives shares and/or property?

If we are any chance of identifying the winner in shares versus property going forward, it is not good enough to assume property will crash relative to shares merely because it has grown so much further in the past decade and a half (although this may be a partial indicator of a “buy low sell high” logic).

It requires logical analysis and the deconstruction of the key drivers of each asset – including but not limited to debt level analysis, rental and dividend yield comparisons, interest rate moves, employment growth (or lack thereof), population changes, building supply changes; and more.

For example, we know property tends to excel in times of economic prosperity (no recessions), when unemployment is stable, interest rates are falling and the population is booming. We also know that shares tend to produce the highest performance in times when the share-market is cheap (“buy low, sell high”), when dividend yields are high, when earnings are rising and when households are generally increasing their participation in the share-market.

Our research agenda allows us to explore these drivers in impeccable detail, and we monitor what we consider to be nine of the key drivers for each market. These drivers can be considered a part of the “science of investing” and are detailed with the intention of helping readers make assessments on the risk and return outlook for asset types.

MetricsDo the drivers work?

If done correctly, the analysis should hopefully speak for itself. As a hint of what to expect, it can be seen in the charts below that the 9 drivers are generally quite predictive of the future 5-year return – especially for shares but also for property. For example, in times when the less than 4 of the 9 share-market drivers are positive, the average forward 5-year annual return is 1.1%. In times when more than 6 of the 9 drivers are positive the average forward 5-year annual return is +17.5%. The same applies to property, with 4.1% versus 10.5% forward 5-year annual returns respectively.

If the future valuations of property and shares stay true to their underlying drivers, which is probable but not guaranteed, one should have a reasonable view of the relative value between the two assets (we say “if” because we must acknowledge the limitations of using any system as a basis for future returns).

It is a combination of logic/common-sense as well as historical perspective.

What do the drivers say today? 

Shares v property 6At present, the share-market has 6 of the 9 drivers positive, while the property-market has 3 of the 9 drivers positive. All things being equal over the next 5 years, this leads us to expect reasonable positive returns for shares versus an expectation for relatively subdued returns for property.

In fact, using 25 years of historical analysis, we can see the likelihood of shares beating property over the next 5 years is approximately 3:4 or 74% from the current backdrop. Obviously this means there is room for error. The backdrop is also likely to change over the course of the next 5 years and clearly the results will vary by sector and individual asset.

Regardless, keeping up with the trends in fundamental valuations of shares and property may prove to be useful asset allocation information at the highest level. This is especially true in the current world of excessive noise and fear-mongering.

We wish you safe and prosperous investing and note that if you wish to see the full report, including the full analysis of all 18 drivers, it can be downloaded via the link below at no cost. All you give is your email and name, which we use to share similarly insightful and valuable reports (no spamming) to advance our authority as an independent research house.

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World’s 46 best destinations to travel in retirement: how many have you visited?

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Travelling is one of the greatest adventures one can encounter. Whether it be relaxing, exploring, fine dining or shopping – seeing the world in different ways offers the best of the best.

Below we outline 45 of the best destinations in the world that are suitable for retirees or those planning their post-retirement vacation.

Europe

  • Venice, Italy
  • Florence, Italy
  • Amalfi Coast, Italy
  • Bordeaux, France
  • Paris, France
  • French Riviera, France
  • Santorini, Greece
  • Lake Bled, Slovenia
  • Jerusalem, Israel
  • St Petersburg, Russia
  • South Coast, Iceland
  • Kotor, Montenegro
  • Lucerne, Switzerland

Australasia

  • Milford sound, New Zealand
  • Broome, Australia
  • Island hopping, Fiji
  • Bora bora, French Polynesia
  • Whitsundays, Australia
  • Tasmania, Australia
  • Noosa, Australia
  • Margaret river, Australia

North & Central America

  • Alaska, USA
  • Aspen, USA
  • Florida keys, USA
  • Beach hopping, Barbados
  • Beach hopping, Bahamas
  • British Columbia, Canada
  • Blue hole, Belize
  • Tortuguero, Costa rica

Africa

  • Kruger national park, South Africa
  • Serengeti national park, Tanzania
  • Cruise the Nile river, Egypt
  • Beach hopping, Seychelles

Asia

  • Tokyo, Japan
  • Island hopping, Maldives
  • Cappadocia, Turkey
  • Istanbul, Turkey
  • Organised tour of Bhutan
  • Snorkelling in Palau
  • Krabi, Thailand

South America

  • Cusco, Peru
  • Iguazu falls, Argentina/Brazil
  • Easter island, Chile
  • Galapagos islands, Equador
  • Mendoza, Argentina
  • Patagonia, Argentina/Chile
  • Antarctica

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17 stock metrics: value, growth, dividend strength, stability, momentum and sector analysis

By | Investing Times News, Most Viewed, Share-Market | No Comments

IMG_3386 (640x481)If we agree the primary objective of stock-picking is to pick the winners and/or avoid the losers, then we must start with a framework that helps determine which companies to include.

For the vast majority of investors, this begins with a screening process to reduce the direct share universe down to a manageable number. The problem is that most screening processes involve no validation despite the fact there is an abundance of academic literature on the topic.

In the Investing Times attempts to offer logic, academic rigour and validity to this screening process. The idea is to assess the stock universe using the 3 F’s of Investing – Fear, Fundamentals and Forces – which leads us to 17 factors that each have academic support in contributing to out-performance. They generally aim to achieve dividend strength, growth, value, stability, momentum, sector bias and pricing acknowledgement.

17 factors sharemarketThis allows us to illustrate a number of “optimal” portfolios across differing styles – including balanced, stability-focused, dividend-strength, deep-value, growth-bias and sector rotation (we highlight optimal because it is subject to varies weaknesses we are transparent about).

The underpinnings that make the research different to others is that it focuses heavily on relativity to the sector median. This is vital and a key advantage to creating out-performance on a risk-adjusted basis. For example, a utility company (typically with a high depreciation expense) should not be compared to a bank as their earnings and cash-flow are accounted for very differently. Therefore, our logic implies that the Price to Earnings ratio should be isolated and compared by sector rather than by market.

Our data has allowed us to stress-test the outcomes of a stock universe over 6 years, involving more than 850 data validation periods. We acknowledge this isn’t nearly enough to have outright conviction, however we believe a combination of 6 years of stress testing along with a body of academic literature supporting the underlining metrics is a form of validation.

Creating a portfolio using the 17 metrics

As the founder of the Investing Times and Australian Investors Association, Austin Donnelly always said, “There is a difference between a good company and a good investment”. BHP may be a good company but it is not a good investment if you buy it at the peak of a mining boom. Therefore, the idea is to create a portfolio of investments with strong fundamentals and attractive pricing. The logic is that if any of the 17 indicators hinted to a buy signal, these are recorded and scored. If all seventeen indicators are suggesting underlying appeal, there is a reasonable likelihood of strong future performance.

If you wish to see the net result and top 20 holdings using this fundamental rigour, we encourage you to request the latest report as a free one-off trial. We will send this via email as a value-add with no obligations or cost.

Trial today

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We have an unprecedented rise in the over 65 age group and our working population is growing at a more modest rate. This article will detail the real problems we face and how you can profit from it.

Long-term investment themes: 10 year + view of the trends, opportunities and challenges

By | Economy, Investing Times News, Recommended by the Investing Times | No Comments

IMG_0801 (480x640)Drawing attention to the outlook and big themes present in the economy is always a healthy perspective. Below are a number of key themes to think about as you monitor your portfolios as a long-term investor:

  • Baby boomer industries to thrive. The percentage of people aged over 60 years old in the Western World is rising at an unprecedented rate. It therefore makes sense to focus on industries which profit from this sector. Any company which derives sustainable profits from wellness and good health could have appeal. Healthcare, consumer staples, recreation/travel and utilities are all areas of focus, although beware of stretched valuations in some of these popular sectors.
  • Asian outbound tourism to grow. A rapidly growing middle-class in China, India and other emerging economies means greater demand for tourism and luxury goods. Chinese outbound tourism is now bigger than the USA with 83 million people travelling, up eight-fold since 2000. This won’t stop here, so it is worthwhile comprehending how you can profit from this trend.
  • Technology will advance beyond mobile and tablets. Only 20 years ago, Google didn’t exist, Nokia phones weren’t yet popular, CD players were yet to hit their peak and Kodak cameras with film were in their prime. It is dangerous to predict the future of technology, except to expect that it will move fast and unpredictably. Steady profits rarely come from this space, so long-term investors are better to think about companies that won’t be disrupted by technology than those who provide it.
  • A combination of high debt levels and rapid credit growth will be unsustainable. The world of rapid credit growth and excessive debt is not sustainable and appears more likely to deleverage or stagnate. In other words, you will probably want to think about whether your investments can thrive in a world of shrinking or stagnating debt. High earnings growth from traditional banking in western markets may be difficult.
  • The need for infrastructure will grow. The global population will continue to rise, even if at a slightly lower percentage, and infrastructure investment will be required. It is worthwhile thinking about the companies that can reduce the burden of increasing traffic and make steadily growing profits by doing so.
  • Food sustainability will become a global issue. With increasing food demand and less land per capita than ever before, a rising middle-class in emerging markets and greater education on the climate implications of food production, we will likely see a movement towards more sustainable food sources.  
  • Geopolitical tensions will remain. Islam is the fastest growing religion in the world and acts of terrorism are increasing. Unfortunately, 10 years henceforth will probably still have geopolitical issues which will cause ongoing volatility.
  • European political tensions will be ongoing. Having one monetary policy stance for 17 countries is problematic and it will be a miracle if the Greek economy fully recovers whilst remaining in the European Union.
  • Clean energy will gain traction. Climate change is a long-term issue that will attract further investment. However competition will be rampant and political intervention could cause disruptions.
  • Bonds to probably disappoint. Bond yields that are currently negative in real terms appear to have almost no option but to go up eventually, and as they do, prices must fall. If nothing else, don’t expect double-digit growth out of bonds.
  • Shares will likely rise, albeit with volatility. Industries will rise and fall, companies will boom and bust, but tomorrow’s companies will generally be more profitable than yesterday’s. The support of a generally growing population and productivity gains means there is every reason to think that shares will rise over the long-term.
  • The labour force will become more educated but less active. Hours worked per person continues to fall, whilst education standards gradually improve. Technology will be a key driver of the future workforce.
  • Quantitative easing is an area to watch. It is the unconventional monetary policy that every distressed economy seems to be reverting to. Unless we start to see consequences such as inflation, this will continue to be the stimulus of choice.
  • Budget deficits are a long-term challenge. With ageing populations, the social welfare system will come under increased strain both locally and globally. This will create ongoing political tension.
  • Commodities are not dead. Withstanding any major improvements in clean energy or future supply, scarce commodities should move higher as global energy demands grow. The Chinese only have 85 cars per 1,000 people, compared to the USA who have approximately 797 cars per 1,000 people. Steel demand is also expected to grow 65% in the next 15 years. In other words, low-cost producers of commodities could still make substantial profits.

The themes above are intended to be thought-provoking rather than strictly predictive. Hopefully some or all of the points resonate with you in thinking about an advancing world. We also warn that investing based on themes requires meticulous care as the underlying investments can be overpriced and leave you exposed. It is worthwhile using Warren Buffett’s wisdom in this regard, “only buy something that you’d be perfectly happy to hold if the market shut down for 10 years”.

RECOMMENDED BY THE INVESTING TIMES

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Long-term investment themes: 10 year + view of the trends, opportunities and challenges

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We have an unprecedented rise in the over 65 age group and our working population is growing at a more modest rate. This article will detail the real problems we face and how you can profit from it.

Evidence of 9 quantitative investment strategies that work. Do you track these metrics?

By | Investing Times News, Share-Market | No Comments

IMG_9048 (479x640)If an investor has the foresight to avoid investment bubbles, they have uncovered one of the most difficult elements to a successful long-term investment strategy. However, all too often, these bubbles are only identified with hindsight.

Emotions and market cycles – particularly those developed on fear and greed – mean that investment bubbles are likely to perpetually occur. In other words, it is euphoria which causes an investment bubble to form and fear that causes it to collapse. The Investing Times maintains thorough research on nine investment metrics that can potentially help identify the peaks and troughs in advance. Each have a tremendous track-record and should be added to every investors watch-list.

Below we identify these at a high level along with a performance extract from our Australian research database:

1. Shiller P/E Ratio – The Shiller P/E is a famous metric created by Robert Shiller who is a Professor at Yale University and Nobel Prize winner. His logic is that the traditional Price/Earnings gauge had two major flaws; firstly, that corporate earnings are too volatile, and secondly, that inflation needs to be considered to gauge long-term earnings. Hence he created a long-term gauge that assesses the past 10 years of real earnings (adjusted for inflation) and used this as a proxy for price. This creates a much more stable expectation of earnings upon which investors can make more reliable valuation estimates on price. As can be seen in the performance table, the Shiller metric has worked exceptionally well in Australia, which is backed by supportive global analysis.

Metric 1

2. Long-term Dividend Yield – The dividend yield can be considered one of the most under-rated components of an investment return. The dividend yield is calculated as the average dividend per share divided by the price. Therefore, a rising dividend yield implies that either a) companies are increasing dividends or b) that the price has fallen. The same applies in reverse. Given the negative correlation between dividend yields and the future price of the market, an opportunity exists to use dividends as a proxy for the long-term price of the market. While methods differ, our methodology takes the ‘regression average’ of the dividend yield over the past 15 years and compares this to the current dividend yield. Including a margin of safety, a buy indicator is apparent if the current dividend yield is 5% or more above the long-term average.

Metric 2

3. Market Capitalisation to GDP Ratio – Warren Buffett may be the world’s most famous investor and in recent decades he has unveiled his favourite metric to gauge the overall share-market. Buffett’s logic is that the size of all the listed companies in a given country should roughly track the overall size of the economy itself. The rationale is that business revenues are a subset of the economy and hence should match over the long-term. Therefore, the metric takes the market capitalisation of all companies and compares this to the GDP. Over the long-term, it has proven high-risk to invest when the market cap to GDP ratio exceeds 100% and low-risk to invest when it is low. We apply a margin of safety, so our methodology looks for times when the market cap is less than 90% of GDP for a buying signal.

Metric 3

4. The Zone System – Originally created by the founder of the Investing Times and the Australian Investors Association, Austin Donnelly, and then slightly modified thereafter, the Zone System is a long-term gauge of fair prices. The logic behind this system is that the market should average a very similar performance number over the very long-term, but this tends to fluctuate due to the economic cycle and sentiment surrounding fear and greed. Therefore, the Zone System allows an objective view by factoring in approximately two business cycles of historical analysis. Our application of the Zone System is to be willing long-term investors if the market is equal to or below its long-term average (i.e. Zones 3, 4 or 5). In reality, the further below the long-term moving average (i.e. Zone 5), the better the prospects for forward returns.

Metric 4

5. The Dividend Yield vs Bond Yield – The Yield Gap applies logic that investors are always making a decision between stocks and bonds (or growth assets and defensive assets). Therefore, it is common-sense to analyse the pricing of these together. There are various versions on the most appropriate application of this logic, but our methodology uses the market dividend yield compared to the Treasury bond yield over the long-term. By comparing the grossed up dividend yield of the overall market to the 10-year bond yield, we can clearly see which way investors might move their funds. For example, if bond yields are very high relative to stocks, a rational investor will move his/her money from stocks to bonds and vice versa. Our methodology uses the long-term moving average of these numbers and the grossed up dividend yield of at least 20% higher is desirable.

Metric 5

6. The 45-64 year old Demographic – The mature age working population is defined as the civilian population between the ages of 45 to 64. This is deemed to be the most important segment of the population for share-holders as these individuals are the most likely to be net buyers of shares. The logic behind this is that 45-64yo individuals are generally gearing up towards retirement and a combination of greater incomes with lower family commitments in general. The importance of tracking demographic trends is imperative as various reputable studies have shown a declining working population creates high risks of deflation and a 40% reduction in future GDP.

Metric 6

7. The Shape of the Yield Curve – A “recession factor” draws on a body of evidence, demonstrating the power of the yield curve in predetermining recessionary conditions. More specifically, an inverse yield curve is said to be one of the most reliable predictor of recessions among all financial data. Our application of tracking the yield curve is a simple calculation taking the 10-year government bond yield minus the 5-year government bond yield. The idea is to simply avoid the share-market during times when it is negative. It should be noted that a positive yield curve is considered normal as it factors in inflationary expectations and liquidity risks.

Metric 7

8. The Coppock Indicator – The Coppock Indicator is famous among technical traders but is arguably under-utilised by long-term value investors. E.S.C Coppock was a well-known economist in the 1960’s that utilised knowledge of behavioural patterns, especially around bereavement. Specifically, he found that the average human mourns for a period of approximately 11 to 14 months on average before finding stability. Coppock’s logic was that investors experience a similar sense of bereavement when markets fall which requires a period of mourning. He therefore rationalised that an investor would not re-enter the market until this period of mourning has finished. From this behavioural pattern, Coppock created a technical system that identifies recovery patterns in share-markets. While the story is unique, the evidence is compelling and the reason why it is contained on this list.

Metric 8

9. The Average Allocation to Equities – The optimism/pessimism allocation metric is a gauge of household behaviour towards the share-market. It specifically tracks the percentage of household wealth being directed towards personal equities, which has had a history of rising and falling depending on sentiment around fear and greed. If the average household is investing less than average in the share-market, this is considered a sign of excessive pessimism and can be expected increase over time. The same applies in reverse, as a high percentage shows over optimism and can be expected to fall. The inflows/outflows this creates over the long-term has had a significant impact on performance.

Metric 9

Final Thoughts

We can see above that each of these metrics have the ability to idenitify mis-pricing opportunities. There are multiple limitations to each metric, and these need to be understood if you wish to use them as part of your investment philosophy. However, there is a real power of tracking metrics such as the above, especially as a combination, which can be best explained below. We urge readers to add these nine metrics to their watch-lists.

Science of Investing Performance 5 Years

Note: If you wish to see the net result and current standings of these metrics using fundamental rigour, we encourage you to request the latest report as a free one-off trial or by subscribing to our ongoing report.

Trial today

RECOMMENDED BY THE INVESTING TIMES

Worried about a property crash? These nine facts answer it better than most…

| Investing Times News, Lifestyle, Recommended by the Investing Times | No Comments
What causes a property market to crash? Is it a falling economy? An unemployment outburst? A building oversupply? Should we concentrate on consumer confidence data? Or is it as simple...

Long-term investment themes: 10 year + view of the trends, opportunities and challenges

| Economy, Investing Times News, Recommended by the Investing Times | No Comments
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Facts about the Chinese economy: How likely is a financial crisis in China?

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We have an unprecedented rise in the over 65 age group and our working population is growing at a more modest rate. This article will detail the real problems we face and how you can profit from it.