Markets remain volatile on fears about strength of the economic recovery

During the month of May stock markets around the world experienced significant declines as investors became increasingly concerned about the prospects for the global economy.  Investors became quite risk averse and moved away from risky assets driven by sovereign risk (government debt) concerns in Europe and the potential consequences for European economic growth. Investors also became concerned about signs of an economic slowdown in China as the government announced measures to curb speculation in the property sector by demanding higher down payments and winding back bank lending.

A three speed global economy has emerged lead by Asia and the emerging economies (including Australia), followed by the US and Japan with the UK and Europe lagging. Australia’s economy is currently driven by the influence of emerging economies in China, India, Korea and Brazil. 

The Euro and the AUD were sold heavily as investors undertook a flight to safety and invested significant amounts in US Treasuries which are seen as a safe haven in times of increased risk and uncertainty. This flight to safety was sparked by growing concerns and ratings downgrades of government debts in Europe – with a focus on Greece, Portugal and Spain. As the month progressed the EU announced a 750 billion euro package that helped to stabilise the market and provide significant and ongoing liquidity to the debt of EU members. This policy initiative is highly significant and should be sufficient to ensure that the EU debt crisis does not turn into a global liquidity crisis.
Closer to home the Australian share market as measured by the S&P/ASX 200 index fell by 7.9% for the month.  Global stocks markets as measured by the MSCI fell by 9.6% in USD terms but actually rose 0.40% in AUD terms as the AUD depreciated 9.9% against the USD.   This illustrates the importance of having a diversified portfolio that has an asset allocation that includes global shares.

There was a lot of news for investors in May. The government’s response to the Henry taxation review and the Federal Budget were announced. The proposed introduction of the Resources Super Profits TAX (RSPT) early in May resulted in substantial share price volatility in the resources sector as investors and analysts attempted to determine the impact of the proposed tax.  The miners, unsurprisingly want to pay less tax and have gone on the attack with an anti-tax advertising campaign. Similarly the government has responded with its own advertising campaign. I am sure the truth is out there somewhere and hopefully cool heads will prevail and a period of consultation will result in some modifications to the proposal. For my money I do not think that the tax will go through in its proposed form and that seems to be the market view. However the uncertainty caused by this RSPT is affecting global perceptions about investment in Australia. With Asia booming I do not believe that mining projects will be stopped but I do think that money will go where it is best treated and the development of some projects will be affected.

I continue to be an investor in the mining sector and I am taking the opportunity to buy more and more quality companies. Certainly European countries with massive debts are going to go through a period of cost cutting and possible high taxes. This will certainly have an impact on those heavily indebted economies. On the other hand the devaluation of the Euro is improving the competitive positions of some European economies like France and Germany. The euro has declined 19% against the USD in the past six months which has helped German exports rise 21% over the last year.

During the month I saw some investors redeeming investments as their fear levels increased. As I have always stated the “share market” is a place made up of buyers and sellers like any market place. When are you most likely to get good value for your investment dollars? The answer is when there are more sellers than buyers resulting in bargains. Unfortunately many investors buy when all things appear rosy at high prices and sell in panic when the market corrects or moves sharply lower. This strategy of buying high and selling low is irrational but is the most common flaw in the individual investors’ approach. I encourage you to maintain your commitment to your long term goals of wealth creation and know that the best investment strategy is not always comfortable.



Michael Lannon
Managing Director

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