MLC Portfolio Manager, Dr Ben McCaw discusses asset allocation considerations in the MLC Inflation Plus Portfolios given the current lack of diversification bonds are providing to equities.
Rebecca Collins: Thanks for joining us today. My name is Rebecca Collins, Research Manager for MLC and today I’m joined by Portfolio Manager, Dr Ben McCaw. Thanks for joining us today Ben.
Dr Ben McCaw: No problem Bec, it’s a pleasure to be here.
Rebecca Collins: It’s been an interesting ride for equity investors in October, which has helped the performance of the Inflation Plus portfolios. But should investors be expecting a change in the asset allocation of the portfolios, moving forward?
Dr Ben McCaw: You’re right it’s been a very interesting time, not just for equity investors but for bond investors as well. Focusing on equities, we’re down about say 10 per cent now in global equity terms, in Australian dollars since the start of September. Now that sounds like a lot, but you’ve got to put that in context, we’re really only back to levels we were in April this year. So if you were defensive in April, it’s hard not to be defensive now as well. But perhaps the most interesting thing for us, as investors right now is not the fact that equities have come off, but the fact that longer term interest rates and bonds have gone up, right.
Now that’s important, because part of the problem that we’ve had in managing the Inflation Plus series, over the past three to four years is not just that equities have been expensive, but that bond yields have been low. So in the case where equities are expensive and bond yields are low, it’s extremely difficult to diversify portfolios and hold equity risk. So we’re happy to see bond yields moving up. Now they haven’t moved up to the point yet where they make them attractive to us, even from a diversification point of view, but at least they’re moving the right way.
Rebecca Collins: So there’s no opportunity to get diversification through equity and bond exposures. How are MLC diversifying their portfolios for investors at the moment?
Dr Ben McCaw: We’ve been quite vocal in talking about this for the last few years. Our main source of diversification has come from currency. So we’ve been exposing the portfolios more to the US dollar, more to the Japanese yen and more to the euro, than we would have under more normal circumstances. We’ve also had some gold in the portfolios too. But like we’ve talked about in the past, using currency for diversification is very difficult and it’s certainly not the ideal solution. And we’ve had to use a derivative specialist team, to help us manage some of the risks that have come with that currency exposure. But it has worked really well and it’s enabled us to at least participate, in a fair bit of the equity upside. And also make some money from the currency falling as well.
Rebecca Collins: What’s on your mind coming into November?
Dr Ben McCaw: Currency is obviously on our mind, I just talked about how we’re using currency to control risk in the portfolios. One of the things that we worry about obviously is topside on the Australian dollar, so the potential for the Australian dollar to rise again. We think that’s more likely if the Chinese Government decides to spend on infrastructure again. The question is, is that more likely in the context of a trade war than not, that’s important. But one of the pieces of data that came out recently that’s very interesting, is that the Chinese current account has started to soften. It’s in fact in negative now.
Now if you look back at the stimulus from 2008, the Chinese current account started there at like plus nine per cent of GDP, and fell down to about two per cent of GDP. That was a very intensive stimulus. But with the current account starting off at a slightly negative level now, I think that the risk of a full-blown stimulus in China is a lot lower. But having said that, it’s still a risk that we worry about and something we monitor, as the environment unfolds.
Rebecca Collins: Thanks for your thoughts today Ben, there’s a lot for people to think about. And thank you for your time.