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Outlook for the 2011 financial year

Yesterday was “grand final day” for fund managers as they scrambled to close the 2010 financial year with the best results possible. Despite valiant attempts to push the market higher throughout the day, fund managers were unable to maintain the double digit performance which was touted right up until May 2010. On 30 June 2010, the ASX200 closed at 4301 which is roughly the same level as where it was at 11 months ago. The index peaked at 5000 in April 2010 and since then, 67% of those gains have been wiped out in a few short months. This represents an increase of 346 points or 8.7% from 3955 which was the closing price of the ASX200 on 30 June 2009. A typical balanced fund with 60% stocks and 40% fixed income, should show an average return of 7% if their stock portfolio tracks the ASX200 index and their fixed income portfolio is able to provide a return of 5%. I have been busy preparing for our upcoming trip to Malaysia so I have not really had time to work out our fund performance. When you have your own DIY fund, you don’t really worry about ‘window dressing’ each year’s performance as the only members you need to impress are yourselves. Our view of the market has been bearish since Oct 2009 and we have rebalanced our allocations accordingly to reflect this. We favoured safe investments over higher yielding riskier ones. Most of our bearish investments did not start to make money until the markets started to fall which was only in the last few months of the financial year. For our fund, the last quarter of FY 2010 was the best quarter for us whereas it was probably the worst quarter for most other super fund managers. Last year’s performance is history and what is more important now is how well you are positioned for the next financial year.

Although I am pretty tied up with other things, I decided to make time to write a blog post today because the SMSF Investment Strategies blog turns 1 today! The sli-smsf.com blog site was created on 1 July 2009 and since then we have posted over 100 blog posts and the SMSF Investment Masterplan e-book which we hope have been useful resources to other SMSF Trustees and retail investors. A big thank you to all readers who have taken the time to drop us an email or leave a comment on the blog. It is always helpful to get feedback so you know if you are doing something right or not.

I also wanted to give a quick update on our outlook for the 2011 financial year as many other SMSF trustees like ourselves would be doing their annual review of their investment strategy soon. This year we will be doing our annual review for our SMSF in Kuala Lumpur, probably over a mug of margarita at Chillis (can’t wait). I will publish our updated investment strategy and minutes of the meeting after we get back from our holidays.

Our outlook for FY 2011 is not very different from what I wrote in My Outlook for 2010 at the start of this year. The same macro problems are still there e.g. the sovereign debt problems, China’s slowdown and the ending of a stimulus driven recovery. If anything, things are expect to deteriorate even faster in the second half of 2010. The Economic Cycle Research Institute (ECRI) publishes an index known as the Weekly Leading Indicators (WLI) which is used by many economists and fund managers as a reliable economic predictor. The WLI is based on six components: money supply, JoC-ECRI Industrial Materials Price Index, housing activity, bond market measures, stock prices, and job market measures. ECRI uses a pragmatic mix of indicators for most components, looking at a broad array of measures.

As you can see from the chart below, the WLI correctly predicted the 2009 recovery but it has turned down since October 2009, and has been plunging sharply since May 2010. As of 25 June 2010, the index is at -6.9 and based on studies done by economist David Rosenberg, a recession has occurred every time the WLI drops below -10 in the last 42 years. We are now dangerously close to that level and although ECRI is not ready to call for a double dip recession yet, they agree the reading is not a good sign. Mish’s Global Trend Economic Analysis and the ZeroHedge blog track this indicator closely so you can get the latest weekly updates there.

Source: Mish’s Global Economic Trend Analysis

There is also plenty of evidence that the effects of the stimulus is fading repidly. Existing and new home sales in the US have plunged ever since the expiration of the tax credit in April 2010. Banking analyst Meredith Whitney believes a double dip in housing is already confirmed and many other investment advisers like Barry Riholtz and Gary Shilling concur with her. Despite record monetary stimulus (remember the printing of an extra trillion US dollars in 2008?), bank lending is down 25%, and M3, the broad money supply is shrinking.

Last year when everyone was convinced that recovery from the Great Recession has started, the most common question was what will be the shape of recovery? V, L, square root (V followed by a flat line) or W (double dip)? Robert Prechter from Elliott Wave International (EWI) has proposed another shape which is “lightning shape” going from top down, left to right which was the shape of the recovery during the 1930s Depression. EWI has devoted two issues of their flagship publication The Elliott Wave Theorist on a detailed comparison of the unfolding Great Recession with the 1930s Depression. Check out A deadly bearish big picture for a summary of what he said. An increasing number of people are also seeing similarities with the 1930s and one of them is hedge fund manager George Soros who sees Act II of the Global Financial Crisis just starting, and check out REMEMBER: In 1930, They Didn’t Know It Was “The Great Depression” Yet for an excellent compilation of comparisons done by Dan Alpert of Westwood Capital.

I am sorry I do not have better news for the next financial year. However, I am a believer that if life gives you lemons, learn to make lemonade. If we are going to be in a bear market for the next few years, we need to learn new investment strategies that can help us improve our returns in a bear market. I have been trying out various strategies in the past year and some have worked out better than others. I will be sharing what I have learned and the investment strategies that have worked for us on the blog. In the next financial year, I expect I will be focusing more on bearish strategies.

I am encouraged to hear that some readers have decided to take action to protect their wealth by increasing their allocation to cash and/or buying put options to hedge their stocks. For those who are new to options and need a little help to get started, please take advantage of the 30 minutes of free consultation that I offer to readers of this blog. My contact details are on the Contact Us page.

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