Markets stay calm through political storms

July 30, 2017

There has been no shortage of political risks to spook investor confidence over the past year; the rise of US President Donald Trump, Britain’s withdrawal from the EU and a raft of “populist” elections across Europe to name a few.

Yet global markets have remained resolutely unfazed, delivering healthy end of financial year returns for well diversified investors. In fact, a look at the CBOE Volatility Index, shows share markets have had their smoothest ride in a long while.

The index – commonly referred to as Wall Street's fear gauge – measures investors' expectations of market volatility. In mid-July the gauge stood at just under 10, the lowest level since 1993.

Global shares performed particularly well during this period of calm, ending the financial year up 20.5% on a hedged basis. Unhedged returns were lower due to the Australian Dollar strengthening against most other major currencies, but still healthy, at 14.7%.

Australian shares were dragged down by a poor final quarter as bank shares were negatively impacted by the Federal Government’s proposed bank levy, but the ASX200 still finished the financial year up 13.8%.

In contrast, traditional defensive assets of bonds and cash have done poorly.  Australian and global bonds returned 0.8% and 1%, respectively, while cash returned just 1.8%.

Super results

Chant West director Warren Chant says shares continued to be the main drivers of super fund performance and helped funds deliver positive returns for the eighth consecutive financial year.

Mercer funds were no exception with Mercer Growth returning 10.7% before fees and taxes (9.3% after fees and taxes) while the largest Mercer SmartPath option (1969-73) returned 10.9% after fees and taxes for the financial year.

Chant says super funds’ strong results against a backdrop of considerable uncertainty, both political and economic, shows how markets are able to cut through the 'noise' and focus on the investment fundamentals.

"The three key stories that dominated the financial pages during the year were the potential fallout from the UK's shock 'Brexit' vote, the equally surprising Donald Trump election victory in the US and the timing of the US Federal Reserve's moves towards normalising interest rates,” Chant says. “On the face of it, those concerns would have been enough to keep share market investors very cautious.

“Instead we've seen share markets reacting optimistically, focusing on the improving global economy, led by the US. As a result, international shares surged while Australian shares also had an excellent year.”

Economy

The US Federal Reserve lifted its effective interest rate three times in the past six months, from a range 0.25% to 0.50% to a range of 1% to 1.25%.  One further rise is expected this calendar year, a show of confidence in US economy’s growth outlook.
 
In Europe, uncertainty around the implications of Brexit remains but recent French and Dutch election results eased some fears about stability in the region.
 
The Chinese economy has shown signs of improvement over the past six months, but President Trump's proposed protectionist policies could prove damaging in the year ahead.

At home, Australia's Reserve Bank cut the official interest rate to an all-time low of 1.5% in August 2016 but has since left rates on hold, citing an improving global economy. The Australian economy grew by just 1.7% in the year to March, accompanied by a sharp slowdown in wage and employment growth – household disposable incomes grew by just 0.5% after adjusting for inflation.

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