For those who have saved a healthy nest egg, retirement is a dream destination, one where you have loads of free time and zero responsibility. Gone are the days of the 9-5 toil and traffic-riddled commutes. Once you retire, what you do with your day is completely up to you—you have the control. However, while breaking free from routines and having endless choices may sound great on the surface, it can be paralyzing if an investor approaches retirement without a plan.
Some research points to the existence of “retirement risk,” where retiring can boost the risk for heart disease and other medical conditions by 40%. Retirement was also ranked as one of life’s most stressful events. However, experts believe that the dangers of retirement can be mitigated by things like a strong sense of purpose and social connections. In other words: Making sure your finances are in order is just step 1 of preparing to retire, then it’s about making sure your goals and plans for retirement are aligned with your life purpose.
Where do life values fit in financial planning?
Identifying your life purpose may seem like an exercise in guesswork when it comes to financial planning, but there is value in aligning your financial decisions with what you deem important in life. Whether you call it your life purpose, life goals, or life values, these are the things that are your personal requirements to living a fulfilling and meaningful life.
Explained this way, it’s hard to justify not incorporating your life values into your financial plan. There is no logic in spending your money on things that do not make you happy. This concept also extends to retirement—there is no logic in spending your time, money, and resources on things that do not make you happy once you retire. Unfortunately, we don’t often take the time to consider what makes us happy. We bulldoze through goal-setting exercises, and list goals that are top of mind, but miss goals that are truly important to us. Then, we don’t go back and connect those goals to our life values.
For example, let’s go back to the “dream” of retirement. For some, this dream may consist of unlimited free time to play golf. I would argue that this plan is incomplete and not very well thought through. Realistically, golf may only take up a couple of hours per day, so what will this retiree do with the rest of their day? Also, playing golf every day may get tiring. What happens if they get bored? Injured? Need to relocate to a place without a golf course nearby? Poking holes in this retirement “dream” is all too easy and shows how the existing process for retirement life planning leaves many people with unmotivating and unsatisfying goals that can leave them directionless in retirement.
What is your life purpose?
Fortunately, we are not chained to the status quo.
In our recent research, we tested a process to help individuals uncover their life values in the context of their financial goals. The process depends on an existing framework from the field of positive psychology that posits that well-being is composed of several components: positive emotion, engagement, relationships, meaning, accomplishment, and vitality, also known as PERMA-V. We found that asking individuals to consider the PERMA-V framework within the goal-setting process helped them identify goals that were closer to their life values.
PERMA + V
Based on our research, to make sure your financial goals and retirement plans are aligned with what makes you happy, consider the following process:
First, identify your financial goals. This is harder than it seems, and we suggest using an exercise to help you work past top-of-mind goals.
Consider the PERMA-V framework. After carefully thinking about each of these categories, write down any additional goals that come to mind.
Now it’s time to ask yourself some hard questions. Take a look at your Step 2 goals. These goals may start to look like your life values. With these values in mind, consider your financial goals. Are all of your financial goals working toward achieving your life values? Are any life values unaccounted for? How can you continue working toward those life values in retirement?
As an example, let’s go back to the retiree who wants to play more golf in retirement. Playing golf can be considered a financial goal because it requires some degree of financial stability (membership fees, equipment costs, and an absence of employment income). Upon further digging, this retiree may realize that playing golf is actually related to their life values of vitality (pushing themselves to improve their skills and stay healthy) and maintaining meaningful relationships (meeting up with friends and loved ones on the golf course). With these values in mind, more opportunities open for this retiree. If golfing every day doesn’t work out, their life values can also be satisfied by going on daily walks with their children, volunteering at an animal shelter to give dogs in need their daily walks, or joining a local running club. By connecting their values to their financial goals and retirement plans, this retiree can align their activities to their life purpose, hopefully leading them to a fulfilling and meaningful life.
Going through an exercise like this can help you identify areas where your spending, saving goals, and financial plans aren’t aligned with your life values. As a result, it can help you redirect before you waste too much precious time. Keeping these values in mind can also provide a constant North Star, one that doesn’t change once you go through a dramatic life event like retirement. Knowing what makes you happy and what you value most in life can help keep you on track, even when you are confronted with the time, flexibility, and freedom that retirement provides.
The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.
When it comes to financial advising, it may seem like the best way to make your clients happy is with the Midas touch. After all, who doesn’t want their investments to turn into proverbial gold?
But King Midas wasn’t happy with his gift, and maximizing your clients’ wealth may not be enough on its own to make them happy, either.
Looking at Maslow’s hierarchy of needs, it is easy to see how money can be directly converted into the needs at the base of the pyramid—physiological needs (like food and shelter) and safety needs (like security of resources). However, money does not so readily convert itself into the higher needs like belonging, self-esteem, and self-actualization. Instead, clients may need guidance from their advisor to see how their wealth can support their long-term happiness and life satisfaction, which may be facilitated through insights from positive psychology.
What is positive psychology?
Positive psychology is the study of what makes a life worth living, and the field is interested in understanding how factors like resilience, strength, and growth can help people flourish. Though there are many ways to apply positive psychology, one of its most promising uses in financial planning lies in helping clients define and pursue meaningful goals.
In goal planning, insights from positive psychology may help clients unpack life goals (like having a meaningful connection with family) that drive their desire for more tangible goals (like buying a vacation home for family trips). In positive psychology, the PERMA framework outlines components that contribute to well-being: positive emotion, engagement, relationships, meaning, and accomplishment. Recent research from Morningstar found providing such a framework during the goal-setting process helped people shift their focus from tangible goals to life goals. In turn, these life goals can help advisors build meaningful and flexible financial plans that help clients be where they want to be.
Positive psychology may be helpful in getting clients to pursue those goals, too, by orienting them toward their strengths. For example, in one study, people were asked to list their personal strengths and how those strengths can help them achieve financial security in retirement. Compared with those who didn’t do this strengths-based exercise, people who did felt more capable in preparing for retirement, had greater clarity in their retirement goals, and had taken more steps to prepare for retirement three months out. As such, clients may be further empowered to work toward their financial goals when they can see how their strengths can contribute to attaining their goals.
There is an important caveat about positive psychology for financial advisors to note. Namely, positive psychology does not mean shunning your clients’ negative emotions (like panic during a market downturn). Not only are those negative emotions very real to your clients, but they can also affect how they act for better and for worse. Keep in mind that positive psychology may serve you well in some interactions with clients (like goal setting) but not all of them.
How can I incorporate positive psychology into my practice?
Though positive psychology is not a panacea for all that ails your clients, using positive psychology can help clients understand and pursue their goals and, in turn, feel more satisfied with their life (and with you!). Here are some tangible steps for using positive psychology in your practice:
Bring positive psychology into goal-setting discussions with clients. Understanding clients’ tangible goals and life goals is vital to financial planning. To that end, we have designed a process for goal-setting; the process first incorporates a framework to help clients identify their tangible goals and then incorporates the PERMA framework to help clients identify their life goals. At the end of the process, you will have a better understanding of what your clients want to achieve with their money and why those goals will make them happier.
Help clients identify how their strengths can help them reach their financial goals. Clients may be more likely to pursue their financial goals if they see how their strengths can help them do so. Take time to help clients identify their strengths by using tools such as the VIA Survey. Then, have a conversation about how those strengths can contribute to their goals. For example, a client whose strength is humor might be able to use that humor to shake off stress during rocky markets, which helps them achieve their goals because they didn’t sell off investments in a panic. This is a place where you can help clients make connections between their strengths and realize their goals they could not make on their own.
Continue your education on positive psychology. We have only covered a sliver of positive psychology in this article, so continuing your own education may help you find other places to incorporate positive psychology into your practice. Consult sources from researchers in the field and experts in financial planning to expand your knowledge base over time.
In the end, clients aren’t just looking for you to turn everything into gold; they are also coming to you for emotional support. Positive psychology may help you better address these emotional needs clients have and, in the end, make you both happier.
The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.
Investment Insights: Bond yields and the Mideast conflict
Bonds are a core part of most investor toolkits. They come in different shapes and sizes, but have historically offered two strong propositions:
Safer bonds, such as Australia and US Government bonds, can act as a ballast against stock market volatility, balancing the risk/return pendulum.
Bonds usually offer positive returns above inflation, typically beating cash over the long run.
This is not the recent experience. With the sudden rise in interest rates and surprisingly strong employment numbers, we’ve seen a big move up in global bond yields. This has left many investors with bond allocations in the red again for 2023, following declines in 2022.
The narrative gets more confused in the wake of the attack on Israel and Israel’s response. It’s not unthinkable that an adviser or client may wonder whether we can still count on Government bonds as a safe haven in times of geopolitical crisis. (By “safe haven” we mean that in particular U.S. Government bonds are one of the few asset classes investors turn to broad market selloffs.)
So, do bonds still deserve a place in a portfolio? Should investors maintain their long-standing rationale for mixing bonds and stocks together? And what can we expect from bonds, given the tragic developments in the Middle East? While it may be difficult to swallow, there are reasons for optimism for the future of fixed-income returns.
Are bonds a safe haven in the midst of the recent conflict in the Middle East?
Given the sudden and continuing tragic situation in Israel and Gaza, let’s tackle the “safe haven” status first. In recent months, the safe haven status of U.S. Government bonds has been a topic of debate. With concerns about the U.S. government’s huge deficits and the Fed’s higher-for-longer narrative (which could mean the U.S. needs to pay more to cover its debt payments) some have speculated on whether U.S. Government bonds’ safe haven status is intact.
We believe it depends on the risk in question. If equities or credit decline because of concerns surrounding interest rates, then Government bonds may not provide the ballast investors would like. That’s indeed what we saw in 2022.
However, in the case of geopolitical conflict, the focus is on risk aversion generally. In this case, relative safety in an unstable world matters most, so we expect Government bonds to act as a store of value, particularly in the U.S. but also in highly rated countries like Australia.
The trouble comes from the confluence of events, as these geopolitical risks occur at the same time as rate rises. In those instances, our preference is for the shorter end of the yield curve. This generally means Government bonds with a maturity date of less than five years, which have yields in excess of 5%, in the U.S. with the backing of the U.S. government and limited interest rate risk.
Do we still think bonds are a good investment?
Looking forward, our outlook for fixed-income returns remains optimistic. Yields are resetting at higher levels, while prices are declining, creating attractive opportunities in fixed income from a valuation perspective.
Particularly, areas like short-term Government bonds, boasting yields of 5% or higher in the U.S., present an opportunity for investors to bolster their portfolios with substantial income without exposing themselves to excessive duration risk (a measure of interest rate risk).
Conversely, in the U.S. the longer-term debt market faces persistent pressure due to expectations of prolonged Federal Reserve policy and the enduring strength of the economy. With the sell-off in long-term global Government bonds, we are cautiously optimistic about the better prospects for higher returns and income, though we still advise investors to carefully consider their overall exposure to duration.
Why are Treasury yields still rising?
Reflecting on the beginning of the year, the financial landscape and consensus projections unanimously painted an optimistic picture on inflation moderating, coupled with a pessimistic view of developed economies in the process of slowing down due to the assertive measures taken by the central banks. Subsequently, we have witnessed a rollercoaster of developments that have notably yielded a remarkably resilient U.S. economy, seemingly impervious to the policy manoeuvres of the Fed. Furthermore, certain aspects of the global economy suggest that attaining the central banks’ inflation targets may require more time than initially envisaged.
First and foremost, labour markets in Australia and the US remain the driving force behind a stronger consumer than expected, despite a significant increase in interest rates over the past 18 months. A lower-than-average supply of workers, coupled with persistent demand for goods and but particularly services, has maintained hiring at a pace that surpasses typical expectations in a rising interest rate environment. In the US, fiscal policy, characterised by increased spending and widening budget deficits, is acting as a stimulant for the economy, contrary to the Fed’s objectives in its battle against inflation.
Are central banks’ “higher for longer” messages the main catalyst?
Taken together, this backdrop has fostered the notion that interest rates will remain elevated for an extended duration. Consequently, long-term bond yields have surged significantly within just a few months, as markets brace themselves for this scenario—an outcome that was not accounted for just half a year ago. As long as the labour market retains its resilience in the face of monetary policy actions, fiscal policy remains accommodative, and overall demand remains on a steady course, the Federal Reserve and the RBA lack a compelling motive to shift away from its hawkish stance. An untimely shift toward a more accommodating position poses the risk of inflation rekindling, reminiscent of the Volcker era in the 1980s.
To reiterate, the concept of enduring higher interest rates was not factored into market forecasts earlier this year. Now, we are witnessing markets adapt to this new reality in real-time, as it becomes evident that the economies have so far been more resilient than anticipated.
Any new risks we need to think about? What are the consequences of higher rates?
As financial markets continue to absorb the implications of prolonged elevated interest rates, the practical consequences in the medium term may face challenges. In the U.S. we are witnessing the impact on the housing market, where we observe declining prices and subdued demand while in Australia the housing market has bounced back from steep losses. Furthermore, consumers who had previously been buoyed by stimulus measures during the Covid era have now depleted their surplus savings, which had been a driving force behind the remarkable demand surge in 2020 and 2021. With diminished savings and higher interest rates affecting credit cards and loans, as well as increased prices for everyday essentials, the risk of reduced consumption looms large.
If demand erosion becomes widespread, it could jeopardise the revenue and cash flows of companies across the board. This, in turn, could lead to a reversal in hiring trends or even sustained job cuts across various sectors of the economy. These same businesses are also susceptible to higher debt costs when they need to refinance or raise capital. Many of these companies have outstanding low fixed-rate debt issued during 2020 and 2021. However, if the central banks maintain their commitment to prolonged higher rates, companies will be compelled to refinance in a substantially higher interest rate environment, adding pressure to their ability to manage their debt.
What’s the likely impact on the economy?
In summary, elevated interest rates have a tightening effect on the overall economy. Some repercussions manifest suddenly, as seen in the housing market, while others have a delayed impact and take time to materialise, such as in labour markets. There is reason to believe that the RBA and Federal Reserve may stick to a higher-for-longer policy, and history suggests that recessions (hard landings) occur more frequently than smooth economic transitions (soft landings). However, predicting when or if such an event will occur remains challenging. Therefore, it is advisable to construct investment portfolios with a range of potential outcomes in mind, avoiding undue bias towards a single scenario.
Do Government bonds still offer the same diversification?
As a core holding among many investors, owning longer-term Government bonds usually offers a twofold benefit:
First, it mitigates the opportunity cost of remaining invested in short-term debt. In the event of a Fed policy reversal and interest rate cuts, short-term debt could experience a sharp decline in yields, forcing investors to refinance at significantly lower rates. Maintaining exposure to long-term bonds secures higher yields both today and for an extended period, thereby reducing opportunity costs.
Second, long-term Government bonds have historically served as effective diversifiers in the face of credit and equity risks during market downturns.
While we acknowledge the possibility of continued economic resilience, the potential for a conventional downturn should not be discounted. In such a scenario, long-term bond exposure could still offer a hedge against riskier segments of your investment portfolio. Nevertheless, it’s important to note that during this cycle, the diversification benefits of long-term Government bonds have been less pronounced, primarily due to a higher inflation environment. If inflation proves to be more persistent than anticipated, the traditional negative correlation between long-term Government bonds and equities may not be as robust.
Does the “inverted yield curve” mean anything in today’s context?
The current shape of the US yield curve could pose a challenge for long-term Government bonds potentially mitigating equity risk. Our studies have demonstrated that in instances of an inverted yield curve, long-term Government bonds have shown diminished ability to shield against declines in equity markets. Conversely, in situations where the curve steepens (with long-term interest rates surpassing short-term rates), long-term debt has exhibited the ability to garner substantial returns amid periods of declining equity markets.
What do we think of corporate bonds in this environment?
While corporate bonds still have a place, we find credit to be relatively overpriced. Whether examining investment-grade or high-yield debt, we are unable to justify an overweight position at present. The spreads investors receive for holding this debt are currently at or slightly below long-term averages. In other words, taking on risky debt like high-yield bonds offers limited yield advantages relative to risk-free alternatives. Additionally, given the heightened likelihood of a recession, relatively speaking, we are uncomfortable with current valuations.
Final thoughts
In the near term, further volatility is possible, so managing risk is important. But Government bonds offer positive forward-looking prospects after inflation, and we continue to see merit in these holdings.
For financial advisers to use with clients. This document is intended to support your service proposition to clients. It is produced by our investment writers with a deliberately light tone and structure. However, these are guidance paragraphs only. It is not guaranteed to meet the expectations of regulators or your internal compliance requirements. If you wish to remove or amend any wording, you are free to do so. However, please bear in mind that you are ultimately responsible for the accuracy and relevance of your communications to clients.
Dear client,
I want to take this opportunity to acknowledge your concerns about the current market volatility and perceived uncertainty. It can be quite discouraging to see the cost of living continue to rise at a time when investment markets seem to be treading water, as they have been doing for a few years.
Indeed, we’ve faced a challenging time for all types of investors—from conservative to growth-focused—with the market presenting a mix of ambiguity and only selected opportunities for growth. We’ve endured a major reset in the economy, with higher interest rates causing a big change in sentiment. Even defensive-minded assets like bonds have experienced uncertainty. But it’s important to remember that it is precisely in such periods of volatility that the seeds of future growth are often sown. For example, we now have investments in your portfolio that are locking in sizeable yields, so we have a new baseline to grow from.
Moreover, we still have every reason to expect markets will trend positively over time, even off the back of challenging economic conditions. Below we share some evidence, where we can see that global stocks have been positive in 26 of the last 36 years, with 7% gains on average excluding dividends. However, in every single one of these years, we’ve seen a decline (the red dots) and the average decline has been right around 15%. So, it’s extremely normal for the markets to misbehave as they trend higher. The message we want to get across here is that market setbacks are the price you pay for healthy returns.
Source: Clearnomics, Morningstar Wealth, MSCI.
On a brighter note, the investment team at Morningstar Wealth have been busy identifying some opportunities ripe for exploration. After conducting thorough research and analysis, they are becoming more optimistic after the reset, with certain asset classes and sectors that could provide attractive rewards relative to the risks involved. In some instances, where markets have sold off, we acquire these assets at attractive prices, seeking to improve long-term growth and income. Many of these opportunities are augmented in your portfolio already. This underlines the importance of not viewing the current market environment through a backward-looking lens but exploring every facet of it for potential growth.
Uncertainty is Difficult, but Patience Pays
We’ve not made the progress we hoped for in the last few years, but we remain confident in your financial setup and we have avoided the major dislocations to date. In some respects, your investments are holding up better than you might perceive. As one small example, those who invested heavily in long-dated bonds—which can especially appeal to some retirees—have fallen as much as 48% since inflation took off from 2020 to today1. That’s similar to what stocks experienced in the financial crisis.
Remember, investing requires consistent effort, discipline, and the ability to ride through the highs and lows. I want to assure you that despite the challenging market conditions, we believe that your current portfolio is still well-positioned to meet your financial goals. Our goal has always been to align your portfolio with your risk tolerance and long-term objectives, and we stand by that commitment. The key now is to continue making informed decisions and stay the course.
I am always available to address any questions or concerns you may have about your portfolio or any other financial matter. Your financial progress is our priority, and we are here to navigate turbulent waters alongside you. Brighter days lie ahead, even if it may require a dose of patience.
I will continue to share valuable insights that will aid you in making informed decisions, keeping your long-term financial goals in sight. If you’d like to discuss any of the above, please don’t hesitate to reach out.
Regards,
Adviser
1 Source: Morningstar Direct, from 31 July 2020 to 25 September 2023. Morningstar UK 10+ Yr Core Bond GR GBP index.
But now that the imminent threat of a recession has subsided, it’s a good chance for advisers to learn from what investors did when they were worried. By getting familiar with what these decisions looked like, advisers can work better with clients to achieve their investing goals amid inevitable market downturns. After all, opening night is only better than the dress rehearsal if the actors have learned from it.
The results of the study suggest there are two major things advisers can do now: 1) play catch-up and 2) get ready to go on the offensive.
Catch Up on Clients’ Financial Actions
In the face of a recessionary threat, 87% of investors took at least one action to prepare for a recession. For about half of all investors, that included touching their investments.
Given the sheer number of actions being taken by investors, it’s no wonder that 38% of investors took at least one imprudent action (such as pulling money out of stocks when the market was down). Overall, the results indicate that investors changed how they were handling their finances because of the threat of a recession, so their situation may look different than it did a year ago.
Moreover, financial advisers may not even know the full extent to which their own clients responded to the threat of a recession. We saw that 38% of investors with advisers did not consult their adviser before touching their investments, and investors reported consulting their adviser before making imprudent decisions only about a fourth of the time.
With fears of recession fading into the background, it’s a prime opportunity for advisers to regroup with clients. There may be changes to clients’ finances to be dealt with, and if they made an imprudent decision, it’s better to catch it now than let the effects compound over time.
Get Ready to Demonstrate Your Value
Investors were largely not making decisions on their own: They reported seeking advice from external sources 61% of the time before they acted. Though no one source dominated investors’ attention, financial advisers only captured a small percentage (8%) of the advice space during this time, falling behind family and friends (24%), websites (23%), and social media (11%).
In many ways, the finding that people tend to seek out financial advice before preparing for a recession is a silver lining. It offers new inroads to demonstrate the value of financial planning, both for those who don’t currently work with an adviser and those who may be typically more disengaged.
However, advisers must be ready to meet investors where they are in times of market uncertainty. Advisers can take this reprieve to build trustworthy content (newsletters, blog posts, and so on) to make available to investors the next time there is volatility.
3 Takeaways to Help Clients Prepare for a Recession
Perception is reality. When investors perceive a threat to their financial security, like an impending recession, they will often try to mitigate this threat. In this way, just the threat of a recession can impact people’s finances (even if it does not materialize). In our study, we found most investors had already adjusted both their personal finances and investments to account for an expected recession. Therefore, advisers should keep in mind that proactively checking in with clients when there is a recession buzz can help them guide clients into taking the best actions for their situation.
Check in with clients about changes spurred by the threat of a recession. Although investors with advisers tended to consult their advisers before changing their investments, they still did not consult their advisers about 40% of the time. Investors consulted their advisers even less often when making changes to their personal finances, like seeking additional income. The break in recession talk gives advisers the opportunity to touch base with clients, address their reactions to the threat of a recession, and if necessary, get them back on track.
Be prepared for next time. Investors began seeking advice for a recession, but not always from advisers. As such, advisers can prepare now to be a go-to source for advice the next time investors feel the threat of a recession. In our report, we provide a guide for advisers to create resources for clients and investors during times of uncertainty, and action plans for engaging with clients when recession fears are heightened. Advisers who are proactive in their preparation for the next recession scare will be more equipped to head off client missteps.
The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.
Our financial plans may be crafted carefully, but when emotions run high—either because of events in the market or changes in our own situations—something inside us screams to act now.
Suddenly, that financial plan is but a distant memory, and we’re posed to make a thoughtless decision that could cost us money. What happened? Why has our thought process changed?
Some call it the lizard brain. It’s a part of our brain that oversees the choices that were necessary to keep ancient humans (and ancient lizards) alive—like the fight or flight response. Conscious thought is slow, and because the “lizard” part of our brain is concerned with survival, it kicks in to help us take quick action without consciously thinking about it first. It’s that part of your brain that can lead you to scurry away like a gecko trying not to become a bird’s lunch, or to feel like Godzilla stomping through a city.
Given the proliferation of the lizard brain across many species, you can probably guess that it is very good at what it does. But it isn’t good at investing. So let’s talk about a few ways to regain control of your decisions.
We Can’t Let Our Lizard Brain Invest for Us
Investing requires you to work in a different state of mind than the lizard brain specialises in.
To invest well, you have to make a plan, pay attention to the long haul, and stay the course even when things get rocky. Your lizard brain, though, wants to you react quickly to whatever immediate threat you are facing.
In the abstract, you might not think about financial issues like losses to your portfolio as a threat; after all, it isn’t the kind of life-or-death threat the lizard brain was developed to handle. However,losses are often experienced in a physiological way, as if they actuallyarea physical threat.
Because our body gets hyped up, we might find it difficult to stick with conscious thought and not let our emotions make decisions for us, which can lead to investing errors when left unchecked.
How to Regain Control of Your Decisions
Fortunately, we’re not helpless against the tyranny of the lizard brain.Research suggestswe can effectively regulate our emotions through cognitive change. Cognitive change is when we adjust how we think about the situation (or ourselves) to help alter our emotional response to it.
The next time you see investment news that gets your heart pounding, take a step back and try one (or all) of these approaches to reframing the situation to ensure your emotions aren’t making decisions for you.
Reframe the emotion.When you’re experiencing a negative emotion, it can help to see the emotion from a different angle. This can be as simple as reminding yourself that what you’re feeling is normal. If your retirement accounts aren’t on track, you might think, “This is so stressful!” But instead of leaving that feeling there, you can go further to reframe it. Remind yourself: “It’s normal to feel stressed when I don’t think I’m on track for retirement.”
Reframe the problem.If a particular issue has your emotions heightened, you can also reframe the problem itself. What if, instead of just being a problem, there’s a silver lining that you can focus on? For example, down markets can be an excellent time to adopt a contrarian attitude and see them not as a scourge to your portfolio, but rather a chance to invest while everything is on sale.
Reframe your point of view.Emotions can make it hard for us to see the forest through the trees. We’ve all had the experience of helping friends and family through moments of heightened emotion by providing solutions that were right there—but that they couldn’t see. Try to take a step back and view your situation from the perspective of an objective observer. For example, if you’re feeling swept away by the excitement of a hot new stock, take a moment and ask yourself what you would recommend to a friend in this situation.
When our emotions get going, we tend to want to respond. By taking the time to reframe the situation, you can give your conscious brain a chance to catch up to your emotions before you act.
The author or authors do not own shares in any securities mentioned in this article.Find out aboutMorningstar’s editorial policies.
Investors face more opportunities than ever in the investing space with information at their fingertips and the tools to put new ideas into action just a few taps away. However, having more choices, and more ownership over those choices, doesn’t always translate to better decisions.
In some ways, investors may feel besieged by the countless sources of information and tools they have at their disposal, all of which are competing for their attention (and money).
If people manage to sift through the information thrown at them from sources like news outlets, friends and family, robo-advice, and others, then they still have to decipher industry jargon and review a range of increasingly complex investment products. Altogether, the endless tools and sources of information available to investors may complicate their decisions instead of simplifying them.
What Choice Overload Can Mean for Investor Behavior
All these factors may prompt some investors to fall prey to choice overload, a bias caused by being overwhelmed with too many options. As a result of this bias, investors may fall into a few decision-making traps:
Inertia: They choose to avoid making a decision altogether and do nothing.
Naive diversification: They choose to pick a little bit of everything. In portfolio decisions, this can prompt investors to spread their assets among all the investment options available to them, regardless of their goal asset allocation or cost.
Opting for attention-grabbing investments: They choose investments they recently saw on the news or other media channels.
When it comes to finances, these shortcuts can become disastrous mistakes—leading some investors to put off making important financial decisions or overspend on investment options.
Guiding Investors Through the Choice Jungle
How can advisors help investors cope with all the noise? For that, we can turn to research-backed decision strategies:
Start by limiting the available options. If a client needs to choose a new investment, give them a few top options to choose from instead of the full range of available products. If they want to read about financial topics in their personal time, guide them to a few trusted websites or blogs. This technique is about narrowing down the myriad options available to investors and providing them with a personalized, vetted selection set.
Build a structure for the decision-making process. If a client keeps avoiding getting back to you with a decision, help them make an appointment on their calendar when they will make the decision. If a client is tech-savvy and has an online calendar, go the extra step and include a description of the decision in the invite along with any applicable (and vetted) resources the client can use to make an informed decision.
Bring it all back to their goals. Sometimes when we are confronted with enticing options and fancy tools, we forget why we started the process in the first place. If a client is tempted to take the shortcut of choosing the attention-grabbing investment, now may be a good time to remind them of their goals and how that investment does or doesn’t line up with them. Maybe the new investment option is popular but also volatile—and not a great way to help them achieve their goal of early retirement, which is only six years out. Helping investors see that disconnect can prompt them to reflect and reconsider and ultimately make decisions that are more appropriate for their unique situation.
The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.
Adviser-to-client template: Why we invest internationally
For financial advisers to use with clients.
This document is intended to support your service proposition to clients. It is produced by our investment writers with a deliberately light tone and structure. However, these are guidance paragraphs only. It is not guaranteed to meet the expectations of regulators or your internal compliance requirements. If you wish to remove or amend any wording, you are free to do so. However, please bear in mind that you are ultimately responsible for the accuracy and relevance of your communications to clients.
Dear Client,
It is common for people to question why we invest internationally. This is a well-intended question, especially when we consider remote positions that don’t feature in everyday conversation. After all, why bring perceived uncertainty into your portfolio in a world of constant geopolitical issues and international conflict?
Yet, we find it helpful to turn this question the other way around: Why would we invest only in Australia and the U.S. when over 80% of the world’s economic growth sits outside these two regions? Why would you invest only in Australia and the U.S. when you can buy strikingly similar companies at less than half the price?
Investing in Australia and the U.S. will always be important, but we need to remember it is not the only game in town. Here is a current snapshot of where Australia and the U.S. currently fit in the world:
Population: Australia is only 0.33% of the global population. The U.S. is 4.23% of the global population. So, over 95% of the world lives beyond these borders.
Size of Economy: Australia is only 1.0% of global GDP. The U.S. is 15.4%. Combined, over 83% of the global economy is outside these borders.
Market breadth: Australia has just over 2,000 public listed companies and the U.S. has over 9,000. Yet, there are almost 60,000 equities in the world, so approximately 80% of all public listed companies in the world exist outside these markets.
If it wasn’t yet obvious, investing internationally can bring potential opportunities for wealth creation. It brings different risks too, but these can be managed. And with the right investment manager on our side, leveraging a global team can be well worth the effort. For Morningstar, who manages your portfolio, the key to winning in this space involves:
Using strength in numbers, with a large team around the world to identify and understand foreign markets.
Adding diversification to Australian and U.S. investments, with different risk and return drivers.
Not overpaying for growth, by focusing on areas that trade at sizeable discounts.
Sizing these positions appropriately, then being patient with them until the opportunity matures.
In truth, international diversification should always be part of the conversation, but it feels particularly important today. By selectively holding international companies, you have a better chance of differentiating your exposure and driving new revenue sources in the fastest-growing parts of the world.
Another reason to like international stocks is that they tend to do well when major U.S. stocks do badly. This is obviously not our “base case” and a scenario we’d all like to avoid, but it certainly helps to have a growth-oriented ballast in the face of inevitable setbacks. The below research from Morningstar shows that when U.S. stocks do poorly, international stocks (defined as Europe, Australasia, and Far East) have historically risen to the occasion.
Source: Morningstar Direct 30 June 2023. 10 Year rolling returns calculated with data starting 1/1/1970. You cannot invest directly in an index. Past performance is no guarantee of future returns.
A Reason for Confidence
We appreciate some clients feel uneasy when investing outside their comfort zone. We believe this is in part a misunderstanding, although is usually well intended. Local equities will always feature earnestly in client portfolios and the merit for international investing should only be considered with strong risk management.
In today’s case, there is a growing sense that international exposure can provide both diversification and opportunity at the same time. Or said another way, we can potentially have our cake and eat it. International investing will never take 100% of your asset allocation, but it certainly deserves a place in your portfolio—and we feel positive about the international exposure we have. We will continue to monitor developments closely and update you as needed.
If you’d like to discuss this further, or any other matter, please don’t hesitate to get in touch.
Regards,
Adviser
Important Information
As noted previously, this document is intended to support your service proposition to clients and the commentary does not constitute investment, legal, tax or other advice and is supplied for information purposes only.
Past performance is not a guide to future returns. The value of investments may go down as well as up and an investor may not get back the amount invested. The information, data, analyses, and opinions presented herein are provided as of the date written and are subject to change without notice. Every effort has been made to ensure the accuracy of the information provided, but Morningstar Wealth makes no warranty, express or implied regarding such information. Except as otherwise required by law, Morningstar Wealth shall not be responsible for any trading decisions, damages or losses resulting from, or related to, the information, data, analyses or opinions or their use.
Cybersecurity essentials for financial advisers and practice owners
By Ivon Gower, Director of Financial Planning Products, Morningstar Australasia Pty Ltd.
It’s a scary reality that cyber breaches are becoming more and more common. Statistics from VMware reveal a staggering 238% increase in cyberattacks on financial institutions during the first half of 2020. This wave of attacks came at an exorbitant cost, with an average of $5.72 million attributed to each data breach. Based on Upguard data1 as of 27 July 2023.
But, though daunting, there are many practical things business owners and everyday tech users can do to minimise these threats. This article aims to offer usable insights to financial advisers and practice owners about strengthening your cybersecurity defenses, while nurturing client and team trust.
1. Establish a Comprehensive Cyber Protection Plan
Establishing a robust cyber protection strategy not only instills a sense of security among your clients but also strengthens your team’s capabilities. The most effective approach involves crafting a plan that covers the stages before, during, and after a cyberattack.
Prior to an Attack: Begin by understanding and mitigating potential risks. Preparing your staff with precise protocols to follow during an attack is essential—this proactive measure ensures that everyone knows their role and minimises the risk of chaos. Forethought is key: avoid formulating your strategy in the heat of the moment.
During an Attack: Having a well-structured response plan in place is imperative. Equip your team with the knowledge of how to handle the situation effectively. Remember, in the midst of an attack, calm and well-orchestrated actions can save the day
Post Attack: The aftermath calls for swift recovery. This phase is not just about restoring your business, but also elevating your cybersecurity readiness and potentially using your cybersecurity insurance.
2. Elevate Security with a Password Manager and Multi-Factor Authentication
Enhancing your defenses against cyber threats can be as straightforward as embracing two powerful tools: a password manager and multi-factor authentication.
Let go of the habit of storing passwords on spreadsheets or within platforms like Google Drive or OneDrive. Prioritise multi-factor authentication—it might not provide absolute immunity, but it can significantly reduce cyber threats by introducing an additional layer of protection.
3. Think long term, not short term
Being cautious and dedicating extra time to verify client details can go a long way to bolstering your resilience against cyber threats, even if it means a minor reduction in productivity.
For instance, calling clients before actioning big decisions may slow you down momentarily, but it’s worth spending the extra time to ensure security.
4. Vigilance Towards Third-Party Providers
Pay close attention to your third-party providers, as they can potentially serve as weak links in your business if their data storage and management practices fall short.
Review all your applications and ensure that your third-party providers have safeguards in place to minimise the risk of errors. For example, if a third-party provider is storing sensitive customer data, they should be using encryption technology to ensure that the data is secure and can’t be accessed by unauthorised parties. Furthermore, they should have processes in place to ensure that data is regularly backed up and that access to the data is restricted to authorised personnel only.
It’s essential to make sure their protocols align with your expectations and industry standards.
5. Mitigate Email-Related Risks
Resist the temptation to let sensitive information linger in your email account, as this introduces an avoidable vulnerability. If your inbox or your client’s sent mail are breached, confidential documents such as tax returns and copies of identification may be exposed.
Sensitive information should be encrypted or stored in a secure location, and if it is necessary to send it through email, it should be done through a secure platform like a client portal. This way, the data is less likely to be intercepted by unauthorised individuals and used for malicious purposes.
6. Embrace Cybersecurity as a Catalyst for Progress
Forward-thinking advisers view cybersecurity not as a hurdle, but as a stepping-stone for advancement. Examples include integrating a client portal and digital signatures – measures that also streamline day-to-day processes. Embracing cybersecurity propels your business towards innovation and efficiency.
7. Include Ongoing Cybersecurity Costs in Your Budget
Allocate resources for cybersecurity systems, insurance, and training as dedicated budget items. Although this might take up a small percentage of your revenue and, yes, maybe even some extra time, the consequences of not doing so include strained client conversations, reputational damage, and penalties. The importance of proactive cybersecurity measures cannot be overstated.
By incorporating these tips, financial advisers and business owners can elevate their cybersecurity readiness, safeguard their operations, and lay the foundation for long-term success.
This article is for general guidance on matters of interest only. The application and impact of cybersecurity controls can vary widely based on the specific facts involved. Given the changing nature of cybersecurity, best practice and regulations, and the inherent hazards of the field, there may be omissions or inaccuracies in information contained in this article. Ivon Gower is Director of Financial Planning Products at Morningstar Australasia Pty Ltd.
By Matt Wacher, Chief Investment Officer APAC, and James Foot, Head of Research, APAC.
Key Takeaways
China’s latest economic weakness has spooked markets, with a stream of media coverage about deflation and property developers collapsing.
The vocal critics of China raise some good points, with uncertainty surrounding future policy shifts, however that doesn’t make Chinese stocks uninvestible.
We outline our framework to assess if Chinese stocks are a contrarian opportunity or a value trap. We find the case for exposure to China remains intact at the current time, albeit with sensible sizing. It shares similar characteristics to our past views on Korea and energy companies, where we saw strong rebounds.
China’s latest economic woes is a stark reminder that investing is complex. Here is a quick update of the main issues dominating media coverage:
Deflation. It was only a few months ago that China’s lack of inflation was considered a blessing. Now, China is reporting deflation (price of goods and services are falling) with comparisons to Japan’s “lost decades” circulating.
Property failures. Some of the biggest property developers in China are riddled with debt, with Evergrande failing and Country Garden on the brink of default. Some are worried about contagion risk, if these losses flow through to other areas of the market.
Nervousness about Taiwan. China said in early 2023 that interfering with Taiwan’s future is the “first red line” in Sino-U.S. relations, sparking a renewed sense of tensions in the region.
End of growth. Some critics are saying China can no longer grow at strong rates, with demographic headwinds contributing to their lowest economic growth rates in decades, albeit still well above the developed world.
Let’s remind ourselves that China worries are not new. Every few years, we seem to go through a new wave of unease about developments in the region. In 2015/16, we saw Chinese economic weakness, financial panic, and a strong policy response. In 2018, we faced “trade wars” with Donald Trump. In 2019, we had the Hong Kong protests. In 2020, we had the Covid outbreak in Wuhan, with years of lockdowns and economic instability. And now again in 2023, we have a new wave of Chinese concerns.
This confuses the average investor, with a constant tussle between the pros and cons of emerging market investing. Here is just one example:
Recent Positive Article
Recent Negative Article
“Emerging markets lead the way in the battle against inflation”
– Investors Chronicle, 2nd August 2023
“China’s downside risks are growing, and its economy is less likely to reach 5% this year”
– CNBC, 16th August 2023.
In truth, investors have always lived with this uncertainty. Many will have been burnt by sudden economic and policy shifts at some point in their investing life—perhaps more commonly in emerging markets, but also developed markets. This doesn’t make a market uninvestible, but it does mean we need to be ready for future shifts when estimating cashflows and valuing assets, applying a margin of safety. In this regard, valid concerns have been raised about weaker shareholder rights and protections in China compared to typical ordinary shares in developed markets.
That said, every asset has a price. Sometimes, it can make sense to buy unloved assets (with the appropriate sizing) that can become wonderful investments, despite not meeting the standard perceptions of quality. In our recent “Global Convictions” document in July 2023, we said the following about China and emerging markets more broadly:
Global Convictions – Views of China and Emerging Markets
China—the largest emerging market—has observed a bumpy economic recovery since the government abandoned strict COVID-19 measures late last year. Initially, optimism soared but that optimism has cooled off. The Chinese economy is decelerating after a strong first quarter. Consumption remains the key focus this year, and the data continues to indicate the Chinese consumer is cautious.
Broadening out, the structural story around emerging markets remains intact. A burgeoning middle class continues to develop in emerging markets and should present interesting opportunities for investors, albeit with higher volatility.
We retain our conviction at Medium to High[1]. We consider emerging-markets equities to be among our preferred equity regions (alongside selected European equities). We also need to remember that emerging markets are heterogeneous. Investors tend to bucket emerging markets as one, but often the real opportunities present themselves at a country, sector, or regional level. For example, despite the many challenges confronting Chinese equities, both the absolute and relative valuation remains attractive.
The framework to decide if China is a good investment
The big question is what investors should do in response to the bad news? This is quite a delicate one to answer. For example, do these developments mean an allocation to China is less attractive or more attractive versus other equity markets? Does it have the hallmarks of a great buying opportunity or a value trap? Would a change in exposure enhance the total portfolio outcome or bring unwanted risks?
China currently has some, but not all hallmarks, to make it a contrarian opportunity. Our experience of prior pariahs—where we have made high returns for clients in our multi-asset portfolios—include Korea and energy equities. The common features of these contrarian opportunities included (1) terrible economic or corporate news (2) sustained selling (3) 50% + falls in share prices (4) extreme lows in price versus fundamentals, using historic and a range of potential scenarios, and (5) alarm, disdain and pessimism from the investing community.
China meets conditions 1, 2 and 5. It is also on the edge of 3, depending on the index, with MSCI China down approximately 55% from its 2021 peak and the Hang Seng down approximately 45% from its 2018 peak[2]. However, point 4 is less convincing, despite several companies sitting at multi-year lows versus current fundamentals. Importantly, property developers are now a small part of the Chinese market, so direct exposure is less of a concern.
Looking to the downside, a checklist for value traps should include technological obsolescence, government policy shifts, and excessive leverage at an industry or country level. Despite some concerns around Chinese debt levels, for the most impacted companies, we can probably rule out the first and third given many of the biggest Chinese companies are leading or benefitting from technological changes and are not heavily levered.
It is always worthwhile thinking about who is on the other side of any trade. At this stage, the most vocal bears on China have warned of further adverse policy shifts impacting profits. This is a fair concern and should be part of any investor’s scenario analysis. China does not have the democratic processes that slow down and make more transparent, big policy shifts. But this is not new. Additionally, many of the underlying government concerns, such as the power of big tech, are common in other countries where regulatory and tax shifts are also taking place. As we look at the range of potential scenarios, our valuation analysis suggests this is not a value trap, unless your central case is one of extreme economic policy.
Are Chinese stocks worthy of portfolio positioning?
From a long-term valuation driven perspective, China offers strong absolute and relative value, even allowing for potential further shocks. As you can see below, Chinese equities rank strongly compared to key equity markets based on our return assumptions.
Exhibit China has a high “valuation-implied return expectation”[3] compared to a list of major markets.
=
Our portfolios reflect this assessment: we have been topping up exposure and rebalancing our holdings. That said, we are mindful to keep position sizing at sensible levels. We continue to monitor developments closely and stand ready to move with the environment, ensuring we adapt to changes in market conditions. As Howard Marks famously said, “In order to outperform, by definition, you have to depart from the crowd”. Our views are steeped by an enormous body of research, plus we have the resolve to do what we believe is right by our investors. If you have any questions regarding any of the above, we welcome you to reach out to your Morningstar representative.
[1] In assigning an asset class conviction, an analyst trades off the aspects of an investment opportunity that argue for and against it, culminating in the expression of a conviction level. The conviction level is expressed on a five-point scale (Low, Low to Medium, Medium, Medium to High, and High), and serves as a key input into our asset-allocation process. Our conviction scoring system is based on four criteria: absolute valuation; relative valuation; contrarian indicators; and fundamental risk.
[3] Valuation-implied returns are specific to the current valuation and could be expected to revert over the medium-to-long term (we typically define this as a 10-year horizon). According to Morningstar’s extensive research, we believe the most reliable way to identify the valuation-implied return of an equity asset class is based on the following equation: Valuation-Implied Return = Expected Change in Valuation + Growth + Total Yield + Inflation.
Since its original publication, this piece may have been edited to reflect the regulatory requirements of regions outside of the country it was originally published in.
About the Morningstar Investment Management Group
Morningstar’s Investment Management group is a leading provider of investment management and advisory services. Guided by seven investment principles, the group is committed to focusing on its mission to design portfolios that help investors reach their financial goals. The group’s global investment management team works as one to apply a disciplined investment process to its strategies and portfolios, bringing together core capabilities in asset allocation, investment selection, and portfolio construction. This robust process integrates proprietary research and leading investment techniques. As of June 30, 2023, Morningstar, Inc.’s investment advisory subsidiaries were responsible for approximately $264 billion* in assets under advisement and management across North America, EMEA, and Asia-Pacific.
In addition to advisory services, the group’s investment professionals build and manage model portfolios for financial advisors in the United States, United Kingdom, Australia, and South Africa to create strategies that incorporate a wide variety of investment objectives.
*Includes assets under management and advisement for Morningstar Investment Management LLC, Morningstar Investment Services LLC, Morningstar Investment Management Europe Ltd., Morningstar Investment Management Australia Ltd., Ibbotson Associates Japan, Inc., Morningstar Investment Management South Africa (PTY) LTD, and Morningstar Investment Consulting France all of which are subsidiaries of Morningstar, Inc. Advisory services listed are provided by one or more of these entities, which are authorized in the appropriate jurisdiction to provide such services.
About Morningstar, Inc.
Morningstar, Inc. is a leading provider of independent investment insights in North America, Europe, Australia, and Asia. The Company offers an extensive line of products and services for individual investors, financial advisors, asset managers and owners, retirement plan providers and sponsors, and institutional investors in the debt and private capital markets. Morningstar provides data and research insights on a wide range of investment offerings, including managed investment products, publicly listed companies, private capital markets, debt securities, and real-time global market data. Morningstar also offers investment management services through its investment advisory subsidiaries, with approximately $264 billion in assets under advisement and management as of June 30, 2023. The Company operates through wholly- or majority-owned subsidiaries in 32 countries. For more information, visit www.morningstar.com/company. Follow Morningstar on Twitter @MorningstarInc..
Important Information
This document is issued by Morningstar Investment Management Australia Limited (ABN 54 071 808 501, AFS Licence No. 228986) (‘Morningstar’).
In compiling this document, Morningstar may have relied on information and data supplied by third parties including information providers (such as S&P, MSCI, Barclays, FTSE). Whilst all reasonable care has been taken to ensure the accuracy of information provided, neither Morningstar nor its third parties accept responsibility for any inaccuracy or for investment decisions or any other actions taken by any person on the basis or context of the information included.
This presentation may contain certain forward-looking statements. We use words such as “expects”, “anticipates”, “believes”, “estimates”, “forecasts”, and similar expressions to identify forward-looking statements. Such forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause the actual results to differ materially and/or substantially from any future results, performance or achievements expressed or implied by those projected in the forward-looking statements for any reason.
Past performance is not a reliable indicator of future performance. Morningstar does not guarantee the performance of any investment or the return of capital. Morningstar warns that (a) Morningstar has not considered any individual person’s objectives, financial situation or particular needs, and (b) individuals should seek advice and consider whether the advice is appropriate in light of their goals, objectives and current situation. Refer to our Financial Services Guide (FSG) for more information at morningstarinvestments.com.au/fsg. Before making any decision about whether to invest in a financial product, individuals should obtain and consider the disclosure document and the Target Market Determination (TMD). For a copy of the relevant disclosure document, please contact our Adviser Solutions Team on 1800 951 999.
Adviser-to-client template: The ‘reset’
This document is intended to support your service proposition to clients. It is produced by our investment writers with a deliberately light tone and structure. However, these are guidance paragraphs only. It is not guaranteed to meet the expectations of the regulators or your internal compliance requirements. If you wish to remove or amend any wording, you are free to do so. However, please bear in mind that you are ultimately responsible for the accuracy and relevance of your communications to clients.
Dear Client,
I would like to discuss the importance of quality at times like today. As we transition through an ‘economic reset’, it’s important to note that this unusual period can bring opportunity for those that that take the time to understand what it can offer investors.
First, let’s discuss what we mean by quality and why it matters. Quality can mean different things to different investors. As your adviser – and to Morningstar, who manage your investments – we seek to express quality at the total portfolio level.
A quality portfolio, by our definition, is when the total blend is better than the sum of its parts, therefore empowering your financial success. The key to delivering quality outcomes is to create robustness by understanding the areas that could stand to gain, and to manage through the inevitable setbacks.
The media certainly doesn’t help the average investor, often using scaremongering language and changing their titles on any given day. With these examples over the last few months, it’s little wonder people that people are concerned:
The Media Confuses the Average Investor
Positive Article
Negative Article
Australian Stocks & Economy
“ASX surges to five-month high as inflation falls to 6 per cent raising hopes of another Reserve Bank rate pause”
– ABC, 25th July 2023
“ASX vulnerable to sell-off as recession risks linger”
– AFR, 9th August 2023.
China and Emerging Markets
“Emerging markets lead the way in the battle against inflation”
– Investors Chronicle, 2nd August 2023
“China’s downside risks are growing, and its economy is less likely to reach 5% this year”
– CNBC, 16th August 2023.
U.S. Rise or Bust?
“Most investors believe we are in a new bull market and there will be no recession in 2023”
– CNBC, 30th June 2023
“‘Crash coming’, says Big Short investor who predicted 2008 crisis”
– Daily Telegraph, 17th August 2023.
In truth, there are always negatives we need to navigate. Yet, there are positives too. Our job is to be realistic. For example, inflation is coming down and interest rates are nearing their peaks across most of the developed world, offering investors better income-generating opportunities. Jobs are holding up. Many businesses remain profitable, some wildly so. And the average consumer is still spending and saving, despite the cost-of-living crisis.
To balance, we do think it is a wise idea to focus on quality at the current time. When I look at your portfolio, I’m reassured of its robustness and believe it is well placed to deliver over the longer-term. For example, we are pairing defensive assets with growth-oriented assets to ensure we have complementary return drivers. We are keeping overall fees low, where sensible. Also, we can move with the environment, ensuring we adapt to changes in market conditions.
There is a famous saying that the highest-quality businesses don’t always make the best investments. Right now, some so-called ‘quality’ assets (like treasuries) offer excellent value and we certainly hold them. But other ‘quality’ investments (including companies with a high return on equity) are quite expensive and higher risk than usual. In such a scenario, it can make more sense to buy unloved assets (with the appropriate sizing) that could become wonderful investments, despite not meeting the standard perceptions of quality.
Nobody can argue with quality. It is intuitive, desirable and something we certainly seek to embed in everything we do. It is our hope that you see it the same way.
If we can help with anything relating to the above, or if you would like to review your financial plan, please let me know as I would be delighted to help.
Kind regards,
Adviser
Context Regarding ‘Quality’ Equity Assets
*Below, you can see how the ‘quality factor’ has performed (as the purple box), which includes companies that rank well on the selected criteria of; a) high return on equity, b) low debt to equity, and c) low earnings variability. But as you can see, this does not always result in quality outcomes. If you go back over time, the quality factor has been like a yo-yo, delivering anything from -31.2% to +34.4% in a year. We seek quality portfolio outcomes, not quality labels.
Adviser-to-client template: Have we turned a corner with inflation?
This document is intended to support your service proposition to clients. It is produced by our investment writers with a deliberately light tone and structure. However, these are guidance paragraphs only. It is not guaranteed to meet the expectations of the regulators or your internal compliance requirements. If you wish to remove or amend any wording, you are free to do so. However, please bear in mind that you are ultimately responsible for the accuracy and relevance of your communications to clients.
Dear Client,
As you might have seen, inflation looks to have turned the corner, even though the jobs market remains as strong as any period in history. In fact, inflation seems to be moderating globally, albeit at different speeds in different regions.
They say markets often climb a wall of worry and that has certainly been the case thus far in 2023. Warren Buffett famously described this phenomenon in 2008, saying in the last 100 years we’ve “endured two world wars and other traumatic and expensive military conflicts; the Depression; a dozen or so recessions and financial panics; oil shocks; a flu epidemic; and the resignation of a disgraced president. Yet the market rose from 66 to 11,497.”
Turning to more recent events, we’ve seen sentiment change from a state of worry to more neutral expectations. To our eye, risks remain, and important unknowns need to be discounted. That said, we of course welcome the recent downturn in inflation and have great faith in the make-up of your portfolio in working towards your longer-term goals.
Looking ahead, the ability to generate stronger passive income from bonds and cash is the one change over the last 18 months that stands out to us. Cash rates are obviously much better now than at any time in the last decade, but bonds are arguably just as attractive, if not more so, with government bond yields now closer to 4%. This is a net positive and something we anticipate your portfolio will benefit from.
A crucial question in the conversation around inflation is: What are the investment implications if the next 10 years feature consistently higher or lower inflation and interest rates?
We view this as investors, not economists, and so remain open-minded about the different paths from here. If inflation proves sticky, we hold assets that can do well in this environment. Conversely, if inflation falls quicker than expected and stays there, we have assets that will do well too, such as government bonds and stocks more broadly.
It’s important to remember than not everything in a portfolio is expected to go up at once. If everything is going up, that’s obviously great news, but it can highlight potential problems with the construction of your portfolio. A truly robust portfolio should have offsets against different environments and there should be things that aren’t working as well as things that are.
Yes, cash is attractive, but it has stiff competition. For example, short-term government bonds, which are currently offering similar yields to cash, would benefit from a fall in rates. Unlike cash, they have sensitivity to the economic environment which means if we do experience slowing economic growth, they can support your portfolio when the stock market might fall.
As we always say, ups and downs are part of the investors journey, but we will climb the wall of worry together.
Regards,
Adviser
Key market developments: June quarter 2023
Overview
Markets were generally positive in the seconad quarter of 2023, despite a range of conflicting indicators.
Some economic data such as employment and wages point to a resilient global economy that appears to be handling the burden of steep interest rate rises. Other data, such as PMIs, point to an economic slowdown.
The prospect of peak rates is supporting markets, along with that of inflation retreating. However, this is happening at different speeds around the world, causing regional performance differences.
Defensive assets continue to be shaped by higher rates, with short-dated and high-yield debt leading the way in the second quarter despite the risk of a recession if growth slows.
Asset class recap of June quarter 2023
Global shares
The MSCI World Ex-Australia NR Index returned 7.3% over the quarter in local currency terms, increasing the 12-month return to 18.3%. In Australian dollar terms, quarterly returns were 7.6% due to the falling Australian dollar, reflected also in the 12-month return of 22.6%.
Japanese equities (+15.5%) were the strongest performing across developed markets, followed by U.S. equities (+8.7%). In emerging markets, Turkish equities (+21.3%) led the way followed by Polish equities (+17.4%).
Information Technology and Consumer Discretionary were the strongest sectors over the quarter, returning 15.0% and 11.3% respectively. Communication Services continued a strong start to the year, returning 10.2%. While most sectors achieved positive returns, performance was negative in Energy (-1.1%) and Utilities (-0.7%) for the quarter – all in local currency terms.
Australian shares
Australian shares had a positive quarter albeit lagging global markets, with the S&P/ASX200 index returning 1.0% over the quarter and 14.8% over the financial year. Information Technology (+18.5%), Utilities (+5.5%) and Industrials (+4.3%) were the best performing sectors. Health Care (-3.0%), Materials (-2.6%), Consumer Discretionary (-1.7%), and Consumer Staples (-0.16%) lagged most over the quarter.
Bonds
Bond yields continued to increase over the quarter with core inflation in the U.S. remaining elevated. This rise in yields led to declines in the global benchmark index.
Key stats in local currency terms, Australia Government Bond 10Y: 4.0%, United States Government Bond 10Y: 3.8%.
Property and infrastructure
Domestic listed property & global infrastructure returned positive results throughout the quarter alongside global equities, while global listed property was marginally down for the quarter.
Key stats (in AUD terms): Australian listed property (S&P/ASX 300 A-REIT TR): 3.2%, Global listed property (FTSE EPRA Nareit Dv ex AUS NR Hdg AUD) -0.9%, Global listed infrastructure (S&P Global Infrastructure NR Hdg AUD): -0.7%.
Positioning and outlook
The second quarter of 2023 saw a wide range of outcomes which were generally positive, with some assets remarkably strong.
Once again, inflation and interest rates played a prominent role, with inflation retreating at different speeds across the world as interest rates near their expected peaks. Economic resilience was another major theme for the quarter, with stronger than expected growth.
Gradual relaxation of stimulus measures has not dampened positive momentum. Unwinding the policies implemented after a decade of near-zero interest rates is a complex process; however, inflation is declining, and employment remains stable. Although certain segments of society, particularly households and businesses with debt financing requirements, face mounting pressure, an increasing number of retirees are embracing higher interest rates.
This stands in contrast to the initial consensus that higher interest rates would trigger an economic recession, causing heavily indebted companies without profits to falter and dragging down the markets along with them.
Global Sector Performance, Year-on-Year in Local Currency Terms
Yet, for all the talk about stocks, it is defensive assets that have seen the biggest fundamental shift—and higher than usual volatility.
Bonds delivered mixed results in the second quarter, largely driven by fluctuations in interest rates and inflation. Contrary to concerns, the banking turmoil did not spill over into other sectors or markets, which provided favorable conditions for riskier bonds such as corporate high yield. Shorter-dated bonds also held up better than longer-dated bonds over the quarter.
Investors have clearly moved away from a TINA mentality (There Is No Alternative) to a TARA mindset (There Are Reasonable Alternatives) with major shifts in the investing landscape.
Generally, our portfolios have held up relatively well through these volatile times and they continue to be monitored carefully. The portfolio’s weighting to growth and defensive assets continues to be broadly in line with its target long term asset allocation, with the current environment providing opportunities for nimble, long-term focused investors like Morningstar.
Looking Ahead
With the recent gains in the market, it is natural to question the sustainability of this strength. This raises the question of whether it is advisable to adopt a cautious approach or seize the opportunity for further growth. It is important to recognise that markets typically experience fluctuations, influenced by the underlying fundamentals of increased profits and economic prosperity.
We live in a world of continued uncertainty, many market commentators are saying this rally marks the start of a new bull market and investors should jump into equities to ride this wave. But others argue it’s a bear market rally and investors should get out of stocks while the getting is good.
If the fundamentals remain strong, indicating the potential for continued growth, it may be opportune to take advantage of the positive momentum. However, if there are signs of potential risks, such as overvaluation, economic slowdown, geopolitical tensions, or unfavorable policy changes, it may be prudent to adopt a more cautious approach.
In our view, the question for investors isn’t whether to raise the sails and ride the tailwind of a new bull market, or to batten down the hatches in preparation for a near-term squall, but rather how to best position their portfolios based on today’s valuations.
Valuation Implied Returns – Australian Investment Opportunity Set
Over the last 12-months China, Australian cash and Australian government bonds have become more attractive. Emerging market debt, US quality and US IT have become less attractive.
Source: Morningstar Investment Management. As at 30 June 2023
As an investor rather than an economist, and opting for true diversification, we still see merit in multi-asset investing today, with a few selective areas particularly interesting.
Our role is to construct portfolios that help investors reach their long-term goals. Accepting volatility is a prerequisite for good returns in any market, today’s market arguably requires greater care than usual. As advocates of valuation driven investing, we strive to target the best priced assets with careful sizing and diversification. Consequently, as valuations become more attractive, we continue to look to broaden the portfolios exposures across the most attractive asset classes, regions, and sectors identified by our process.
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Dear Client,
I thought it was important to provide an update as we seem to have turned a corner with inflation.
As you might have seen, the latest inflation number was promising and meaningfully better than expected. Inflation is coming down, with the job market broadly holding up. This is true locally and globally, even if we’re seeing different speeds of change.
They say markets often climb a wall of worry and that has certainly been the case in 2023 so far.
Warren Buffett famously described this phenomenon in 2008, saying in the last 100 years we’ve “endured two world wars and other traumatic and expensive military conflicts; the Depression; a dozen or so recessions and financial panics; oil shocks; a flu epidemic; and the resignation of a disgraced president. Yet the market rose from 66 to 11,497.”
Since then, we’ve had many more political headwinds, COVID-19, and another war. The market is now up another three-fold. Long-term investing works.
Turning back to recent events, we’ve seen sentiment change from a state of worry to a more neutral position. To our eye, the high-pressure system is still with us, but we obviously welcome the recent downturn in inflation and have great faith in the long-run capability of your portfolio.
Looking ahead, the one enduring change that stands out to us is the better ability to generate passive income. Cash rates are obviously much better now than at any time in the last decade, but bonds are arguably just as good, if not better, with the ability to lock in yields well above 5% for many years. This is a net positive and something we anticipate your portfolio will benefit from.
A crucial question in the conversation around inflation is: What are the investment implications if the next 10 years feature consistently higher or lower inflation and interest rates?
We view this as investors, not economists, so remain open-minded about the different paths that might happen from here. If inflation proves sticky, we have assets that can do well, including exposure to value stocks. If inflation falls back to target quicker than expected and stays there, we have assets that will do well too, such as government bonds and stocks more broadly.
It’s important to remember than not everything in a portfolio is expected to go up at once. If everything is going up, that’s obviously great news, but it can highlight potential problems with the construction of your portfolio. A truly robust portfolio should have offsets against different environments and there should be things that aren’t working as well as things that are.
Yes, cash is attractive, but it has stiff competition. We do not have to look very far to find alternatives to cash that hold up to better scrutiny. For example, short-term government bonds, which are currently offering similar yields to cash, would benefit from a fall in rates and, unlike cash, they have ‘duration’ which gives us a better ability to lock in higher yields for an extended period of time.
We welcome any dialogue on the long-term potential of the assets we hold, so please reach out if you’d benefit from a conversation. In the meantime, we continue to watch developments with interest and will keep you updated if anything requires your attention.
As we always say, ups and downs are part of the investors journey, but we will climb the wall of worry together.
Regards,
Adviser
With ChatGPT, Why Do I Need a Financial Adviser?
By Samantha Lamas, Senior Behavioural Researcher
The technology geniuses have done it again: ChatGPT, and artificial intelligence in general, is set to change our lives forever. Thousands of articles have already cited the hundreds of jobs and services the model will replace—but is that of a financial adviser one of them? If we have the answers to our financial questions just a few clicks away, do we still need a financial adviser? The answer is: It depends on what you’re looking for.
If you’re looking for one-off advice, such as “At age 29, how much do I have to invest a month to retire with $10,000,000 by age 65 assuming a 7% average annual return and taking into account inflation?,” ChatGPT can spit out an answer in a few seconds. However, if you’re interested in a conversation regarding questions like the following:
How much do I have to save to have a comfortable retirement? What does “a comfortable retirement” even mean?
Should I retire at age 65? 45? 50? How would taxes and benefits factor in?
What should I invest in now to get the most returns possible? Would it be possible to factor in some environmentally friendly investments and still hit my return goal? Should I even be so focused on returns?
How will a recession affect my portfolio? Should I be doing anything to prepare now?
Then hiring a financial adviser may be a better fit for you, and you are not alone.
Why do people hire a financial adviser?
In our latest research, we asked 312 current adviser clients why they hired their financial advisers. The question was open-ended, allowing us to collect people’s thoughts in their own words. In all, when we asked people why they hired their financial adviser, they didn’t just respond with reasons pertaining to a specific financial need they were trying to address. Instead, many of the responses were emotionally grounded. Many current adviser clients aren’t just looking for an answer to a particular question—they are looking for the emotional support that we all sometimes need when riding on the roller coaster ride that is investing and finance.
Yes, some people did report hiring their financial adviser to address a specific financial need, but most people reported reasons pertaining to their own discomfort when making these decisions on their own, their need for behavioral coaching, and the quality of the personal relationship they had with their adviser. Among the responses we received were:
“I feel more secure having a different view of my finances.”
“He is a sane voice, and I am able to bounce ideas off of him.”
“I found an adviser who understood me, and I found to be a good fit.”
It’s clear that these advisers are more than a chat service.
Do you just need an answer? Or are you looking for guidance?
So, if you are debating hiring a financial advisor or relying on an algorithm, ask yourself what level of advice you are seeking. If you need a one-off answer, ChatGPT (or a good Google search) can be your solution. But if you are looking for a solution to help you tackle the complexity of financial decisions or ride out the uncertainty of the markets, then an old-fashioned human financial advisor may be right for you. For help finding the right advisor, check out our latest content on how to optimize your search.
The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.
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