Investing During Extreme Uncertainty
How understanding risk influences investing.
3 min
OPINION
As we return to work after a Federal Election and welcome a new government, there still seems to be no end in sight regarding the war in Ukraine, a worldwide energy crisis, food shortages, supply chain issue, COVID-19 and rising costs of living alongside the prospect of further interest rate hikes.
It seems that our economic future has never been more uncertain. Or are things really all that bad for investors?
Amidst the macroeconomic upheaval in the global economy, the question remains, “How does one remain calm, continue to be invested strongly, and actually take advantage of these changes in the global economic cycle?”
How Heightened Risk Can Increase Market Awareness
An analogy can be drawn from a social experiment conducted some years ago in Drachten, Holland, by a traffic engineer named Hans Monderman. He removed all traffic signs, speed control, and traffic lights in this city. Naturally, you would expect complete chaos to have ensued. Almost completely counter-intuitively, both fatality rates and car accidents reduced, while traffic flows improved.
It all comes down to personal risk assessment; when drivers have a constant level of heightened risk awareness, they become better judges of risk more careful and prudent in an environment with fewer road signs and other traffic measures.
The same concept applies to investing. When investors are constantly thinking about risk, being self-reliant and filtering through market noise cautiously, investor behaviour changes for the better.
It also demonstrates an essential truth about life and investing – risk is a constant — what changes is both our attitude and reaction to risk.
Macroeconomic Forecasts
Investors are often lulled into a false sense of security based on what other people are forecasting and thinking, they are caught up in speculative investment trends, often with undesirable outcomes.
The most pressing economic issue impacting all investors is the nexus between inflation and interest rates. How far will the RBA go in raising interest rates to curb inflation? This is now the centrepiece of all forecasts and market predictions. If rates are raised too quickly and aggressively, it increases the risk of an exceptionally prolonged recession. If our central bank is too lax, the inflation we are experiencing may morph into something more disturbing, such as stagflation, deflation, or even hyperinflation.
Thus, the question becomes: how reliant are we on forecasts when making investment decisions?
Below are the Big Four bank economists giving their best attempt at a forecast. Interestingly the CBA and financial market forecasts would differ significantly regarding overall asset prices, from notions of a modest correction to a full-fledged market collapse.
Taking the conservative estimate, if the CBA predictions are accurate, mortgage holders’ monthly repayments will increase by 14.6%, which is aligned with the last time we experienced a rise in the interest rate between 2002 and 2008.
However, if they take the forecasts priced in by the financial market, mortgage payers would be making 39.7% higher monthly repayments.
Risk Tolerance
Msquared’s view is aligned with the CBA forecast; that is, we would anticipate property prices falling 15%. However, our risk tolerance towards new opportunities is more conservative as we continue to prioritise asset preservation and have adjusted our risk profile to reflect an extreme decline in property prices.
As Voltaire said, “uncertainty is an uncomfortable position. But certainty is absurd”.
Embracing the volatile world we live in enables an investor to prepare and navigate uncertainty effectively.
The one thing that is certain is Mark Twain’s dire warning that “History does not repeat itself, but it often rhymes”. Market cycles have been around since the advent of money, largely a result of people’s emotions/sentiments. In other words, the market is not driven solely by economic fundamentals.
What is certain and predictable is that market busts will inevitably be followed by market booms, and vice versa. These cycles will continue so long as people make decisions regarding money – that is – forever.
Paul Miron has more than 20 years experience in banking and commercial finance. After rising to senior positions for various Big Four banks, he started his own financial services business in 2004.
Chris Dixon, a partner who led the charge, says he has a ‘very long-term horizon’
Americans now think they need at least $1.25 million for retirement, a 20% increase from a year ago, according to a survey by Northwestern Mutual
The construction sector is roaring back to life in some Australian states while others languish in the doldrums
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The home building market is on the rebound as building approvals rise, new data reveals.
Information from the Australian Bureau of Statistics shows that the total number of dwellings approved in August was up 7 percent seasonally adjusted, with apartments leading the way.
Private sector house approvals gained 5.8 percent in August while private sector residences excluding houses were up 9.4 percent. This follows on from a decrease of 14.6 percent in July and indicates a solid recovery in the Australian construction sector as the end of the year approaches.
Approvals for total dwellings were strongest in the two largest states, with Victoria recording a rise of 22.2 percent and NSW 12.5 percent. Western Australia also saw a significant rise of 12.3 percent.
In Queensland, the results were less positive for the sector, with total dwelling approvals falling by -26.9 percent. Tasmania also experienced a drop in approvals in August, down -10.1 percent and South Australia -6.9 percent.
Chris Dixon, a partner who led the charge, says he has a ‘very long-term horizon’
Americans now think they need at least $1.25 million for retirement, a 20% increase from a year ago, according to a survey by Northwestern Mutual
