Populist policy: The impact on property and equity in 2019

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MEDIA RELEASE While the current market cycle is mature, it is unlikely to enter a bear market recession in the next 12 months; however given it is later cycle, heightened focus on value and risk management rather than growth will be key to generating returns in 2019, say investment experts with SG Hiscock & Company.

Hamish Tadgell, portfolio manager of the SGH20 fund, says that the current market cycle has been atypical for a couple of reasons.

“It has been a very long market cycle which in itself is unusual, but what is particularly striking is that equity market returns have been very strong despite weaker than average economic growth.

“The aggressive policy settings by governments and central banks around the world, which has delivered low interest rates, and the more recent US fiscal boost, have had a dramatic effect in driving markets up through increased valuations.

“This has been most pronounced in growth companies. However, even where company earnings growth rates have been lower, the impact of zero interest rates and aggressive policy has driven up valuations.

“The problem for investors is higher valuations generally implies either greater risk of a correction or lower future returns. At this stage in the cycle, this warrants exercising greater caution and trading off some growth for valuations that are less stretched, and at the same time building in a higher margin of safety than perhaps over the last few years.”

Mr Tadgell says another consideration for investors is that the extreme monetary policy has also sharpened the sting of inequality that has a knock-on effect on companies.

“We are in a period where populist governments and changing public debate are questioning the role of companies, including greater scrutiny around their social license to operate and increased regulatory risk.

“We don’t believe this is transitory – it is here to stay, and it needs to be seriously considered by investors.

“Investors need to be aware how the change in community expectations and rise in populism is driving change at the ballot box and in government policy and regulation – it goes to the heart of the environment in which companies operate, and ultimately it affects their earnings and potential valuations.

“Our approach is to look for companies that are still growing, are reinvesting in their businesses, and are leveraged to attractive thematic end markets, but which are at a more reasonable price. This will be a key consideration and focus in investing for 2019 and beyond,” Mr Tadgell said.

Grant Berry, portfolio manager of SG Hiscock’s AREITs funds, said a similar approach was required for property investors.

“House prices have risen dramatically in recent years, and some investors have found it difficult to believe they could ever come down. However now we are in an environment where the housing market has softened. We are seeing both investors in established housing and owner-occupiers retreating, as house prices fall in the “middle ring” areas.

“The market noise seems to suggest that the property market is on the verge of collapsing, and as a result, investors in property – whether direct or listed via AREITs – are extremely cautious.

“While a degree of caution is certainly justified, the reality is there are still a number of positives driving the property market in Australia, and we think it is unlikely there will be a national “housing crash”.

“Rather than just look at what is happening in their own suburbs, or to their own home value, investors need to go outside their home turf to find the opportunities.

“We are still seeing strong population growth in Australia, which will continue, and the residential property market has also experienced a period of under-building, evidenced by low rental vacancy rates in capital cities. As a result, we are in a catch-up phase, so the fundamental supply and demand equation is good, which is a positive for the next few years.

“In the growth corridors, house prices are holding up well and we are seeing good value opportunities with some residential developers that are positioned towards these areas.

“The main risk going forward is the credit environment, which has significantly tightened. But overall, AREITs are trading at a discount to the underlying property values.

“This is evident in the retail property subsector. We believe that the fears around e-commerce has been overplayed, and there are some high quality retail AREITs that are trading at a meaningful discount to fair value,” Mr Berry said.