Australian shares may not have bottomed yet

While the US equity market looks cheap, Mercer principal David Stuart believes Australian shares may not have hit the bottom yet.

“We think Australian shares are not as cheap as other overseas markets,” he said.

“The key is investor sentiment, which is in panic mode at present.”

Australian shares plummeted earlier this year, but after a small rally a few months ago, the market has fallen to new lows with no signs yet it has hit the bottom.

Stuart said nobody can pick the actual bottom of the market, but looking at investor sentiment can be an indicator that a turnaround is near.

“Nobody knows when the bottom of market happens, but there are signs we can look at showing we are getting there,” he said.

“It is sentiment that will cause the bottom of the market, not prices.”

Stuart notes that in all previous market falls, the panic sentiment rarely lasts long, usually measured in months rather than years.

Another sign of reaching the bottom of a market is the price to earnings ratio trends of companies.

In both the US and Australia, it has fallen rapidly this year.

Stuart said these falls do not last long and quickly bounce back as companies start rebuilding their businesses.

While many parts of the globe have already moved into recession, he said markets have priced in all the bad news.

“This is not a repeat of the 1929 crash where banks stopped lending,” he said.

“Nor is it like the Japanese crash in the 80s where the banks actually raised rates during the downturn.

“Today, governments are acting more quickly to this crisis and cutting rates.”

While the economic outlook is grim, Stuart still believes Australia will avoid a recession due to its strong fiscal position.

However, a fall in the housing market has the potential to tip Australia into a recession.

One outcome of the crisis will be a more cautious approach to investing in the future, Stuart believes.

“In the past, the price of risk was low, but we won’t be going back there in a hurry,” he said.

‘People are expecting a large return for any risk today so this is going to change the structure of the funds management industry in the future.

“The hedge fund industry will come out of this crisis in a very changed shape.”

But Stuart said after a few years of conservatism, investors will have forgotten the bad times.

“The human investment memory only lasts about five years, so people will soon be back on the old bandwagon of ignoring risk again.”