A widely expected victory by the Australian Labor Party (ALP) in the next Federal Election would make bonds more attractive, according to fixed-income manager Daintree Capital.
Justin Tyler, Daintree’s portfolio manager and director, interest rates and currency, also said it would hardly be considered controversial to say that there is probably going to be a Labour election victory next year at a Federal level.
“I think we would all be pretty surprised given the implosion we’ve seen from the Coalition if that wasn’t the case. Unexpected things happen, but I think as an investor it’s our job to prepare … for a change in power and different policies we’ll need to deal with,” he said.
And, as Tyler points out, one of the flagship policies that the ALP has been talking about is the abolition of franking credit refunds for most self-funded retirees.
“So, I think that would have quite a meaningful impact on markets here in Australia and the reason is that most investment portfolios in Australia are very much overweight equities – so we’re not just talking about the retirees who are affected but we’re talking about the general market,” he said.
“The other thing to say about that is that the franking credit regime is very, very entrenched. So, many people rely on franking credits … so the policy that has been announced is not going to remove franking credits – it’s not that severe – but I guess the risk factor that we’re looking at is that if the market reacts a little bit as if that is the case, that you do get a correction in the dividend-paying stocks.”
Tyler also points out that a lot of the high-dividend-paying stocks tend to be those that have the most interest-rate sensitivity, such as the banks and property trusts.
“So, we’re talking about a policy out of the Labor Party that might potentially cause issues for the return profile of these stocks, in conjunction with an interest-rate market that is already causing issues with the return profile of these stocks,” he said.
Tyler said a similar point could be made when it came to the implications of the Labor Party’s policy on negative gearing: “The housing correction that we’re experiencing is well overdue and necessary – you’re now talking about introducing a policy that’s likely to exacerbate that to some extent when there is already a correction on the way.”
While these are issues he is “not losing a lot of sleep over,” Tyler said that if the aforementioned risks come to fruition he is quite happy to take long positions in Australian interest rates, because all these issues would do is delay the Reserve Bank from raising rates from 2019 until 2020.
“So, this is just a political risk factor that we have in our minds at the moment because these are meaningful changes in policies that have been in place for a long time and many retirees have based their financial planning around these policies – I’m not saying that the policies themselves are wrong, I actually think that the idea of changing these policies is a good idea,” he said.
“But how it impacts on people who have already put their financial plans in place as a result of them, that’s one issue. And the more important issue is, okay, how do you time the introduction of these policies when already … not all but some of the policy objectives that you’re seeking to achieve, being some affordability returning to the housing market, for example, well they’re already happening before you even start.
“I’m not an equity investor, but if I was … I’d be starting to move my portfolio away from some of the interest-rate-sensitive sectors, particularly if those stocks pay high franked dividends. That would be one thing that I would be doing.”
Tyler said that for Daintree Capital, being bond investors, what they hoped to see is a rotation on the part of Australian investors towards fixed income as an asset class, especially given that OECD figures showed they had one of the greatest underweights to fixed income in the world.
“Gaining your income from franked dividends is not defensive … so we would hope to see some people moving their money towards fixed-income funds because we think that’s just a sensible reaction to the policy changes that we’re likely to see.”
