For savers and investors, 2015 was a mixed year, with deposit rates continuing to slide and markets volatile. But what will this year bring?
With the populist vote strengthening and general elections on the way in the United States, France and at home, politics could shift the direction of markets in 2016, while other stories set to continue into 2016 are low oil prices and a euro/dollar exchange rate that is fast approaching parity.
Against such a potentially volatile backdrop, we asked three experts to give their view on what 2016 might hold for investors and savers alike.
Low interest rates – and low yields – are here to stay Despite December’s move from the Federal Reserve to increase rates for the first time since 2006, Irish investors shouldn’t expect a similar move from the European Central Bank anytime soon.
“The earliest we see a rate hike in Europe is 2018. The ECB continues to reaffirm that monetary policy will remain accommodative until we see more sustained growth out of Europe,” says Brian O’Reilly, head of global investment strategy at Davy.
Andrew Milligan, head of global strategy with Standard Life in Edinburgh, agrees.
“I would expect the ECB to remain very supportive, as inflation is still a very long way away from target (2 per cent), so at the very least it will remain supportive. It wouldn’t surprise us if there was another policy action into 2016,” he says.
This means savers are facing into another year of low returns on their deposits. A quick glance at what’s on offer shows that the best return on a 12-month fixed rate deposit is just 1.05 per cent from Nationwide UK Ireland. And that’s before Dirt takes 41 per cent off your return.
Beware of the risks in a low-yield environment Against such a background, people will have to take on more risk if they want to get a better return.
"With no risk, there's no return effectively; people have to resign themselves to that. If you don't want to take risk, you're not going to get a return," advises Brian Weber, head of Quilter Cheviot, Ireland.
But there is a very real risk that investors and savers alike, faced with a miserable return on their deposits, take on far more risk than they’re comfortable with.
“In this environment, it is very important that the prospective investor assesses how much risk he or she is is willing to take. He or she should then only invest an amount of capital where they can tolerate the short-term asset volatility,” says Weber, noting that some investors may be itching to get a better return, but they must be patient.
“In a world of low numbers, there are possibilities to make higher numbers, but you have to be very selective, and it could be very risky,” says Milligan. Prepare for return of inflation But if over-exposing yourself to volatile assets may put you at risk, so too could staying overweight in deposits.
“Long term it’s a risk if inflation picks up,” says Weber. “You have to have some equity exposure to protect yourself.”
Thus far, oil prices have kept prices down across Europe and Ireland, and Davy is forecasting inflation of just 1 per cent for Ireland for 2016. However, as O’Reilly notes, we’re coming to a point where inflation will start to pick up, given the strong rates of recovery in the Irish economy.
And, with rates set by the ECB, there is no option for Ireland to raise interest rates locally to quell inflation. This may see inflation start to eat away at the real value of a saver’s money.
Equities still offer room for returns So allocating to equities will still make sense in 2016. Milligan is positive on European equities.
“We’re at a nice point in the cycle for European equities,” he says, adding that it’s about the “earnings story”, and an “extra kicker” for European corporate earnings is the favourable dollar/euro exchange rate.
In terms of particular names, Standard Life favours Nokia, Deustche Telekom and Danske Bank. Outside of Europe, Milligan says the investment manager is “neutral most markets”, noting that the valuation of US equities is “a little high”
Weber is also positive on equities.
“Equities are not over-owned and we believe they are not over-valued. Dividend income is still very attractive when compared to bonds and deposits,” he says. He concedes that valuations of US equities are “slightly on a high side”, but are nowhere near in valuations in dot.com era or 2006/07. He advises that investors look to large portfolios of global blue-chip equities with reliable and predictable records of growing profits and dividends.
“You’ve got to be selective with your equities,” he says, adding that if you don’t, you may find that they don’t offer sustainable dividend income. As Milligan asks, “How many companies have cut their dividend in the last month or so?”
When it comes to Irish equities, domestic listed companies had another “phenomenal” year in 2015, O’Reilly notes, while Milligan points to Irish names the fund manager likes including Grafton and Ryanair.
However, as O’Reilly notes, investors have to be “very careful of concentration in Irish stocks”. The top three stocks on the Iseq make up 57 per cent of the index, and the top four, 67 per cent. So, even if you think you’re spreading your risk by buying an index, remember that it’s a highly concentrated one.
Bonds Bonds will likely to continue to experience turbulence into 2016. In early December, a US mutual fund liquidated after a wave of losses and redemptions, in the largest closure since 2008, intensifying concerns over the health of the US corporate bond market.
And, closer to home, the Central Bank recently cautioned that a rapid decline in prices is possible, as it warned that “low levels of secondary market liquidity, particularly in fixed-income markets, could exacerbate adjustments”.
As O’Reilly notes, rising rates will mean falling bond prices, and if the Fed does go ahead and raise rates four times next year, as indicated, it could prove problematic unless an investor is holding the bond to maturity.
But, as an alternative to deposits, O’Reilly says Irish investors could look to US treasuries for a “decent yield”. Of course investors need to beware of currency risks when investing outside the euro zone.
Property Commercial property is also cited as an asset where there’s room to grow. Standard Life’s three-year forecast for Irish commercial property is for an 8 per cent per annum increase in capital values.
While supply has started to increase, Davy’s O’Reilly says it will take another two-three years to come on-stream. As such, he can see upward pressure on rental growth for the next two/three years.
Irish investors can choose from a range of vehicles to get exposure to commercial property, with O’Reilly noting that Davy prefers property funds such as Iput, as they tend to be less volatile, although the trade-off is illiquidity. Such vehicles aren’t as easy to get out of as a real estate investment trust which is traded like an equity.
Again, diversification is key and Standard Life’s Milligan cautions Irish investors not to go overweight into Irish property. “For most investors, if they have 10-20 per cent in (global) real estate that would be high,” he says, so an Irish investor should realistically only have a small proportion of their portfolio in Irish property.”
Don’t disregard the impact of tax Investment experts always say that tax should not be a reason to invest in something but, given the tax-heavy environment, it would be foolish to ignore the impact of it on your investments.
Indeed with no change in the most recent Budget, capital gains tax (CGT) at 33 per cent remains more attractive than the 41 per cent Dirt tax levied on gains on deposit accounts and investment funds.
“We believe clients should invest in a wide range of global blue-chip equities and exchange traded funds for both diversification purposes and for the tax efficiency,” advises Quilter Cheviot’s Weber, adding: “You can also offset gains and losses in the CGT environment (this is not possible when investing in most funds)”.
Those looking to gift their children significant sums in 2016, or those who stand to inherit, will also benefit from the recent hike in the tax-free capital acquisitions tax threshold to €280,000. A pessimist's view: What might go wrong in 2016 Oil climbs to $100 a barrel UK leaves the European Union Banks hit by cyber attacks EU crumbles under anti-immigration fears China's economy falls, military rises Israel attacks Iran's nuclear facilities Putin sidelines America Climate change heats up Donald Trump wins the US election Source: Bloomberg
