Data Dependent

The economy is going to slow one way or the other. Either rates at their current level will slow it down significantly in the months ahead or central banks will be forced into another round of interest rate increases until it does. It’s the same issue I’ve been talking about for over 2 years. If inflation reemerges, as it appears to be, then interest rates will have to go higher. Central banks inevitably need 2-3 attempts to get inflation fully under control. If we look at the 70’s and 80’s where multiple attempts were required to bring inflation under control it seems so obvious that central banks needed to go higher.  

Firstly, central banks don’t really have any great foresight when it comes to what should happen with interest rates. The direction of interest rates is ultimately driven by the economic data of the day. The biggest mistakes occur when central bankers start providing too much guidance. Phillip Lowe in 2021 saying that rates won’t go up until 2024 was a disaster, and Jerome Powell has made a similar mistake this year flagging rate cuts that the data now seems to make improbable. Everything would be simpler if central bankers stopped giving their best guesses and just did their job when the time came and not opine what might happen one day.  

When inflation in Australia rose quickly beyond the RBA’s 2% target level, the data eventually forced central banks to increase interest rates despite their reluctance. Over 18 months, many countries saw rates increase from near 0% to 5% range. Inflation started to fall. In Australia inflation, fell from a high of 7.8% in 2022 to 3.6% last quarter. However, before returning inflation to its target level, central banks made the decision to stop raising rates in the hope that they had done enough.  

Around the time of the last rate rises, I recall the build-up of pressure on the central banks from all kinds of stake holders. The rate increases were causing pain in the community. Pain for businesses, consumers and mortgage holders. I remember seeing media reports highlighting organisations such Lifeline meeting with Chairman Lowe to plead with him to stop raising rates. It was clear to me at this point why the job of the central banks is more difficult in reality than it is in theory. Regardless, they have a job that must be done for the benefit of the entire economy.   

There was a level of pain that was acceptable and a level that was too high. Even though continuing to raise interest rates would ensure that inflation targets were reached the level of pain in doing so had become unpalatable for the community. At that time, the economic pain of higher rates was worse than the possibility of inflation not hitting the target. So, a wait and see approach prevailed. Now with inflation appearing to reemerge central banks can once again raise rates if needed as they point to the dangers of higher living costs. Rate rises even if they deliver economic and financial difficulties will be possible if the inflation data deems them necessary.  

All this nuance will be forgotten in the future when we look at the charts of inflation and interest rates and see that central banks ended up taking 2 or 3 goes over multiple years to rein inflation in. I am not particularly sympathetic to the central bank. They are often wrong and lack conviction and the intestinal fortitude to make the necessary decisions for the overall good of the economy.  But living through these times and observing the dynamic directly helps to understand why seemingly foolish decisions are made.  

The current conundrum of central banks is that they’ve been wrong too many times already and another misstep would be a problem. As inflation in countries across the world, including Australia, reemerges, they are now hoping that holding rates higher for longer will be enough to slow the economy. If not then they will need to start raising rates, but that is a problem as markets have gone from expecting several rate cuts this year to almost none. Deferring rate cuts until 2025 is one thing, but rate rises are another altogether. Regardless, central banks need to go back to basics and remember that they are data dependent.  

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

Solving the Housing Crisis

The solution to fix the housing crisis is simple because it’s a supply and demand issue. We need more houses or less people. More supply or less demand. While the solution may be simple that doesn’t mean it is easy.  

The obvious way to increase supply is to build more homes and apartments. But this is constrained by the realities of market forces around capacity, finding workers, the cost of materials, and time. It will take many years to build the number of houses and apartments needed to solve the problem.  

Achieving the massive increase in supply needed will address the issue in the medium to long term. It will also play a huge role in the continued growth and prosperity of our country. But increasing supply is not going to solve the housing crisis we face right now. 

There are two distinct phases to solving this problem. A short-term solution to fix the crisis and a long-term solution to solve the issue once and for all. The short-term solution will incur economic pain, but it is necessary to avoid a more serious crisis.  

The short-term solution is simply to substantially reduce immigration for a period of time, say 12-24 months. Many people don’t like that idea but the rapid rise in immigration is a big part of the issue. I’ve got no issue with immigration levels where they are at, I think it’s great for our nation and the economy more broadly. But you can’t just keep bringing people in if you don’t have enough homes, and at the moment we don’t.  

If you owned the only hotel in town and had say 100 rooms and you booked them out to 110 families who are flying in from overseas that weekend, it would be a problem. Not only is it unethical its irresponsible. Your lack of planning or deliberate overbooking is ruining the holidays of many people because you are being either greedy or lazy. 

When you bring in almost 550,000 people from overseas annually when you don’t have enough homes, our nation is doing exactly what the hotel operator in my story above is doing. Except what we are doing is even worse. Many of the people coming into our country are relatively wealthy including the students from overseas and can afford to pay higher accommodation expenses.  

The people most severely impacted here are everyday Australians who are being priced out of the market. Rents and property prices are being forced ever higher, not because they should be but because of the dynamic we have created by our own poor planning. As with any business or enterprise, you need to ensure you build your capacity ahead of ramping up sales or you will crumble under the weight of the increased demand.  

To be clear, I am not suggesting a lower immigration policy beyond what is needed to address the crisis Australian families are facing right now and will continue to in the 12-24 months ahead. There are massive benefits for our country and the economy by opening our doors to people who can contribute to our nation. But right now, we need to take a step back to take the next sustainable leap forward.

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

The 3 Themes Driving the Next Super Cycle

It is well understood that there are short-term cycles created in share markets by fear and greed and longer-term cycles in economies in the form of booms and busts, but I also believe there are even longer, more influential cycles at play. These are the multi-decade geopolitical cycles driven by a small number of major themes that set the framework for everything that follows.

If you consider the past 30 years, we had globalization, the rise of China, and the evolution of the internet and mobile. These few themes influenced the investment and strategic decision-making of governments and businesses across the world and ultimately the lives of every person on the planet.

But the past few years have seen an inflection point as the cycle ends and a new one has clearly begun. Globalization is over, China has not fulfilled the next phase of its economic potential and the internet and mobile are fully embedded in the economic machine.

The new cycle is driven by very different themes. I consider them to be as follows:

1. A world preparing for war.

2. The rise of AI

3. Energy

The first one is not meant to be alarmist in any way, but I will focus most of this note here because all the sub-themes are understood in isolation, but we don’t do a good job of facing up to what is happening when you link them all together. Countries across the world are clearly preparing for war in the years to come. Hopefully another major global conflict never happens, but the machine is already in motion and the multi-faceted sub-themes are taking shape for the decade ahead.

• Bifurcation of supply chains

• Strengthening ties with allies

• Authoritarian governments colluding

• Growing defense budgets

• The business of war

• New battlegrounds

Russia attacking Ukraine turned the world upside down as suppliers became potential adversaries. Germany’s reliance on Russian energy demonstrated how devastatingly dependent countries had become on potential enemies. This led to the realization that there were many other vulnerabilities in the supply chain that represented a threat to national security.

Globalization had come at the cost of national security, and it was immediately obvious that such a risk needed to be mitigated. China had grown to become systemically entrenched in the global supply chain. Now being slowly unwound simultaneously creates new opportunities as reshoring and near-shoring redirect global trade. But the flip side is that China is no longer the growth market it once was. The dramatic fall in revenue and product sales for Apple and Tesla is evidence that China isn’t standing still either as they support domestic competitors.

Meanwhile, there appears to be an increasing level of collusion and trade between Russia, China, and Iran emerging. Despite sanctions from the US and the West, Iran is selling much of their oil to China, while China is providing Russia with an increasingly concerning level of support by way of componentry and materials to expand their military manufacturing.

Russia, China, and Iran targeting 3 separate nations for conflict, Ukraine, Taiwan, and Israel not only serve their own agenda but also distract and weaken the US. By ensuring the US and their military and financial resources are spread more thinly, the timing is not by chance.

The rising threats not only impacts policy and trade but are now leading to a massive increase in defense budgets and military spending in countries around the world. This funding facilitates investment in a variety of traditional and new technology, machinery, and infrastructure. Many businesses are gearing up for this growth from making weapons to cyber security and everything in between.

The rise of AI and the magnitude of its potential to reshape the world is becoming better understood. But it is very much in its infancy. There are decades of growth ahead with innovations, companies and applications that will change the world. Entire industries will rise and fall on the back of these developments in the decades ahead, including some we haven’t imagined yet.

One thing I am certain of is that the long-term demand for energy will increase significantly and it will require huge investments in all forms of energy. This theme encompasses every aspect of the demand and supply of energy. From the many different types of energy to the infrastructure required to produce, deliver, and store it, energy is a theme critical to all aspects of the global economy and society itself.

I do think that the previous cycle will be remembered as one of the most prosperous and peaceful times in history. In many respects that relative peace and prosperity was taken for granted as the good times continued. But that complacency sows the seed of the disruption which creates the next phase of the cycle. But regardless of how volatile and difficult the next phase may be, there will always be incredible opportunities for people to succeed. If history has taught us anything it is that regardless of what happens, the human spirit is undefeated.

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

Geopolitical Risks are Rising

Any time you have serious tensions between nations in a time of war there is the potential for escalation. From an investor perspective, I am concerned with the recent developments in the Middle East as there is obviously the potential for even further escalation given the recent attacks on Israel by Iran. That said, at this stage, my view is that it is not in the interests of any country to escalate from here and all things being equal I am hopeful that this doesn’t go further – for now. Keep in mind that any of my comments here are only in relation to their impact on investors and investment markets.

It appears that Iran flagged their attacks ahead of time, giving the US and Israel sufficient room to ready their defences. When the attack came, the Israeli air defence, supported by the US military and other allies was able to fend of almost all of the 200 plus drones and missiles sent their way. I’ve also read reports suggesting that Iran indicated that these attacks are the full extent of their response.

If Iran wanted to maximise the impact and damage, I would have expected them to launch a surprise attack. You would not provide any communication as to the extent or timing of the attack unless it was for misinformation. While that remains to be seen, if that communication is truthful then it suggests the attack was less about aggression or even revenge and more about perception at this point.

It was widely expected that there would be a miliary response of some kind from Iran following the Israeli attack on the Iranian consulate in Syria. Perception matters for all sides, most importantly in the military sense because leaders of a nation cannot appear weak in the face of an attack. A tepid response from a leader in the eyes of their citizens would weaken their leadership and possibly expose them to challenges internally.

Considering that a response was inevitable, and expected, what matters then is the size and scale of a response. In this case, it appears to have been relatively well navigated by Israel and its allies. Iran has responded. Israel has successfully defended itself. Again, from an investor perspective, markets are on edge right now and, in my view, rightfully so given the likelihood of a further Israeli counterattack. What matters most for investment markets is the scale of their response.

A forceful but measured counter will mean It’s still very possible that the situation can settle from here. Certainly, the US and its allies do not want to be dragged in to a war. Of course, any of this can change in an instant. Further disproportionate attacks from either Iran or Israel from here would amount to a serious escalation in my view and I would be concerned about the conflict broadening and the subsequent flow on effects.

So, while there remains a serious risk of escalation simply because war is unpredictable, my read is that this situation can be contained and managed for now. Of course, in a situation as perilously positioned as with tensions in the Middle East, you can never be particularly confident. These are the most complex dynamics of geopolitics because turning the other cheek isn’t an option.

While the situation in the Middle East is extremely complicated, it is made even more so because there are serious implications for the global economy. In this case, Iran’s involvement, and the potential for disruption in the supply of oil would have wide-ranging implications. Lower supply would translate into much higher energy prices and once again put upward pressure on inflation.

As we head towards the USA presidential election in November, increased inflation would create a situation that would bring the cost-of-living crisis to the fore of the election debate and potentially threatens the Biden leadership. It’s possible that this impact the outcome of the election but it’s also possible that it impacts the Biden government response to the situation in the Middle East.

The US political environment is so polarised and divisive that the upcoming election will not only impact the US but also the structure of the world. Whoever wins the presidency will lead a future path that will be dramatically different from the one that would exist if their challenger were to win.

This will be a sliding doors moment for the power structure of the rest of the world. All the nations involved in conflict around the world, or potentially involved in conflict, are well aware of this. So perhaps it’s less about whether geopolitical tensions will rise, but more about where they will arise.

General Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

Head in the Sand

There are dozens of different types of risks and biases that investors need to consider when making investment decisions. Some such as market risk, concentration risk, credit risk, liquidity risk and time horizon risk are easier to quantify and are well understood. Others such as recency bias, confirmation bias and herd mentality are more nuanced and require some self-reflection to mitigate or offset their impact.

Share markets have been kind to investors over the past several months, and our portfolios have enjoyed solid returns on the back of this. However, the recent buoyancy in share markets has not changed my underlying cautiousness regarding the risks that investors face. I still think the world is precariously placed, even though the share market doesn’t seem particularly concerned now. Wars can escalate, inflation may not be over, the list goes on.

Investors have become complacent and seem to ignore any potential for bad news. Rather than factor in risks more conservatively, the share market has taken an attitude that everything is great until it has been proven that it is not. This binary thinking isn’t very smart because it doesn’t account for the reality that there are indeed risks that exist with varying degrees of probability. These risks need to be factored in.

To make the math simple, let’s imagine there are 2 separate global events, event A and event B. Let’s further assume each event has a 50% probability of occurring in the next 12 months and would result in a 20% decline in the share market. Based on the probability of each of the 2 events happening, the following outlines the combination of possible outcomes and their probabilities of occurring:

1.      25% chance that neither event A nor event B occur.

2.      50% chance that either event A or event B occurs.

3.      25% chance that both event A and event B occur.

Unfortunately, investment markets often misprice event risk. Perhaps it is due to complacency or the intangible nature of assessing risk. Nevertheless, in the absence of an event occurring, the default assessment of these risks by investors in the current market seems to be to ignore it until it happens.

This might turn out to be ok in the 25% chance where neither of the 2 events occurred. But that results in a mispricing of risk until that point because there was a 75% chance of a negative outcome whereby at least one of the events occurs. If the events do occur markets need to adjust much more aggressively. In the basic scenario I outlined above, there is a 50% chance that one or the other event occurs, resulting in a 20% fall. While there is also a 25% chance that both events occur leading to a much larger fall in the share market.

In reality, there are many risks at play of varying probability and consequence. But in today’s complex geopolitical and global economic environment, where there are many more event risks than usual, the prudent assessment of risk is imperative. It’s critical to think differently and ensure you don’t get caught up in the herd mentality as markets throw caution to the wind. Consider the way various biases impact your thinking and assessment of risk.

So, while investment markets and many investors seem to have taken a head in the sand approach to considering these risks, I am happy to carefully consider them. It means that we continue to take profit from time to time as share markets go ever higher. We want to be prepared for the day when one or more of these events do occur because eventually, they will.


General Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

Why Does AI Matter?

With so much hype around AI, it is easy to dismiss it as just another technology fad. It’s not always clear how these advancements will really impact our daily lives. So, it is also easy to underestimate how important AI will be for everyone in society and just how quickly it is advancing. Why all the hype about AI? The bottom line is that it is going to change every aspect of our daily lives from the way business is done to the way we all live. It is going to happen quickly.

There is no better example than to compare the evolution of images. When OpenAI’s Dall-E first came out in 2021 it was able to generally produce a picture from a text description, known as prompts. Fast forward to April 2022 and the release of Dall-E 2 showed a material advancement in the technology’s ability to generate higher quality and more detailed images. It brought about questions of what it means in the future when AI can generate video. Well, in only 18 months since the release of Dall-E 2 and ChatGPT, it’s already being answered.

In February 2024, Open AI released Sora for a limited trial within certain industries. Sora generates videos that are up to a minute long in a matter of seconds based on simple text prompts. Imagine being a business that can now generate your advertisements for TV in a matter of minutes. Now imagine being the advertising agency or film company. One of many industries about to become modern versions of the blacksmith. That is a real-life example of the pace of change.

It’s why Hollywood writers and actors were on strike back in 2023. They know where this is going. Imagine being Pixar spending and generating millions on creating state-of-the-art animation only for AI technology to replace you overnight. Just as anyone can produce content today, in the very near future the type of content will expand to include the ability to create ads, animation, TV series or movies in a matter of minutes.

In the short to medium term, many of these organisations will actually benefit by continuing to do the work they do and thrive as they harness AI internally and produce more content more quickly and more cheaply than ever before. But that is phase 1. Phase 2 is when it really starts to disrupt industries. Their customers start to work out that there are now businesses that provide them with access to create their ads online and suddenly the entire industry moves towards almost zero cost and is then ultimately a software service platform.

Talking to senior leaders in the legal industry and they will tell you they are seeing the impact of AI firsthand in exactly this way. Right now, they can have lawyers deploy AI to complete work in an hour which would take an associate lawyer 2 days. It means lower costs and higher margins – for now. But eventually, it flows through the business model, and it won’t be long before AI-enabled solutions are offering far cheaper but no less effective legal solutions.

This is the same for every type of business where people are doing the work. In the future, it will be AI doing more and more of it. Where it’s physical work, it will be at the intersection of AI, automation and robotics. For example, Amazon’s robot workforce is forecast to surpass its human employee count (currently around 1.6 million) by 2030. There isn’t an industry or a job that will be left untouched by AI. Highly trained professionals such as surgeons, lawyers, or accountants? You will be replaced by AI and robots. Construction and labour? You will also be replaced by AI and robots.

A more futuristic example of AI disrupting an industry is the concept of fully autonomous, AI-driven construction. Imagine a construction site where robots equipped with AI algorithms handle everything from excavation to assembly, with minimal human involvement. These robots would be able to analyse blueprints, navigate the construction site, and use technology to build structures with precision and efficiency. They could work around the clock, speeding up construction timelines and reducing labour costs. We can disagree over the timeline, but I can guarantee that this is coming soon enough.

I’ve heard people doubt that this level of computer-driven autonomy can happen because they can’t comprehend a world with so many jobs disappearing. But that’s the wrong way to think about it. What people will do for work or entertainment will take care of itself. It is a completely separate question and has little to no bearing on the fact that many of these jobs will disappear as this technology takes hold. It might be confronting but it certainly won’t stop the progress.

It is quite possible that AI and automation will result in many of the things that people have previously worked all their lives for will be readily available at an extremely low cost. There is the prospect of abundance as technology can easily produce what is needed for everyone. This means an exponential rise in the standard of living and the potential to eradicate poverty. It will happen in stages, but it is happening already. AI matters because it is going to change the lives of every person in the world in the years ahead.

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

Lonely at the Top

One of the most common themes I hear when talking to successful business owners is that it is lonely at the top. This was reinforced during one of my recent podcast interviews when I was talking to a founder, Tony Keating, who shared a story about a particularly difficult period in his business. Tony co-founded Resapp, a business that commercialised technology that diagnosed respiratory illnesses via a recording of a patient’s cough. While the business was ultimately acquired by Pfizer in 2022 for $179 million, the journey to get there was a difficult one. 

As he told the story, I was particularly interested in who he turned to for support during that toughest of times. He said his lawyer was great to talk to and his investment bankers too. While I am sure they were great, these are not fields traditionally associated with an empathetic ear and emotional support in times of trouble. I asked if he talked to other founders who had been through a similar situation before. His answer was no, when you are in the middle of running a business and in the heat of battle it’s difficult to develop those types of relationships with your peers. 

I was interested because as our podcast has grown, we have formed great business relationships with our guests - a growing list of exceptional founders and business leaders here in Australia. It’s clear to me that there is a huge wealth of knowledge and experience within our ‘podcast alumni’. I’ve been thinking about how best to bring that group together in a way that is most valuable to them. After talking to a founder who anticipates selling their business for over $100m in the next 12 months about their private investments, I realised what would be most valuable to our podcast guests and our future guests. 

We have the perfect mix of founders who have created and sold huge businesses, as well as founders who are working their way through that process. We also have founders who have decided not to sell and keep their businesses privately owned. That is a rare group opportunity to bring like-minded business owners together. Some who have been there and done it at the highest level and others who are about to. It’s a perfect mix of experience and knowledge to be able to share with those who need such rare advice the most. 

So, the plan for the second half of 2024 is to bring together a small group of 10-15 successful business owners for a private boardroom lunch to discuss the decision-making process around selling or not selling their business. Those that have been there and done it have a wealth of knowledge, real-life examples and tips and traps to share, that you only learn once you’ve been through it. But more than that there is also the transition phase to explore when it comes to the post-exit impact on your life. This is a massively under-researched area and all too often I hear stories of how difficult this phase is for founders.

For example, when a founder sells and suddenly has a large amount of money, what made them an exceptional businessperson is often their biggest weakness as an investor. They want to act fast and move quickly when making investment decisions. But that’s a recipe for disaster. Time and time again I’ve seen people lose millions from their first few investments post-exit before they realise their mistake and put in place more robust decision-making processes. My advice once the money hits your account is simply to put it on term deposit for 3-6 months and just decompress. Then look at your next steps. 

Many of you reading this are exactly who we want to bring together in this type of forum, you either run a very successful business or have sold one. I have started conversations with many of our podcast guests in the past few weeks and the support for the idea is fantastic. Whether you are an existing client, podcast guest or a friend of our firm, we would love to hear your thoughts on how we can build on this concept in the months and years ahead. I would love to hear your feedback and thoughts on this idea. 

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

A Matter of Trust

We live in a world where trust is a rating out of 5. From travel to dining to where you stay. When we went to Europe last year, our daughter recommended that we use the Google rating out of 5 to determine where we ate. It was extremely useful. It didn’t matter if it was for a fine dining restaurant, a pizzeria, or a sandwich shop. We had a rule that it had to be 4.5 or better. It became the most important factor in choosing where we went.

On a couple of instances, we forgot to check and went to a place because it looked great, and we walked away disappointed. We’d look up their rating and sure enough it was a 3.5 or a 2.9. We were surprised at its accuracy. When we got back to Sydney, we looked up the scores of all our favourite places in Sydney, all were highly rated. The system works extremely well. The caveat being that the score needed to have a reasonably high number of reviews, a 4.9 with 10 reviews is not the same as a 4.6 with 1,000.

In business, the way trust and reputation are built may still be based on quality, price, reliability, or service. But the way trust and reputation are communicated is changing for all of us. Regardless of the industry you are in we have moved beyond the simple word of mouth that was the foundation upon which many great businesses were built. Technology results in businesses effectively scaling their reputation as their happiest and unhappiest customers register their experience for all to see. 

So, you must earn it. In Melbourne last week, an Uber driver was on his way to pick up my wife and I to take us to the airport. We had just been talking about this topic and she said sometimes the driver will get out and open the door for her and other times not. So, we were particularly keen to see what this driver would do. To our amusement, he remained seated in the car and opened the door by reaching behind himself and awkwardly shoving the door from the inside of the car with a backward push. Does that deserve a 4 rather than a 5 all else being equal? 

How should you rate a business? When it comes to Uber, for example, I would be hard but fair. One of the few things I spend money on is the Uber premium service. I expect it to be just that. I give the ranking that is deserved. My daughter would tell me ratings are powerful and giving someone a bad rating impacts their livelihood. But does that mean giving everyone a 5? For a little while after that conversation I did. But the reality is you should be marked up and down for how good your service is. If I give average service a 5 that’s not fair to the person who gives exceptional service and deserves the 5. 

I was reading an article in the Australian Financial Review (AFR) earlier this week about retailer Cettire which highlighted to me that rating systems have become so trusted that they are being used by investors to determine business quality. This quote in the article stands out “While investors have made money, review sites are littered with poor customer experiences for returns and refunds”. I couldn’t help but notice comments from a fund manager who didn’t invest saying that they couldn’t ignore the company’s poor review history. Ratings and reviews are a serious business.

Ratings and reviews in their various forms are increasingly relied upon as the source of trust in the global economy. What does this look like in the future as they become increasingly embedded in our daily lives. Do we end up with a consolidated score made up of all our interactions with every service provider we deal with? The point to all this is not to be flippant but to emphasize the changing nature of trust in the modern digital age. Where a rating out of 5 is now the most powerful way in which we both earn and give trust.  

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

The Best Attribute You Can Have

The values I tried to instil in my kids as they grew up were to have a strong work ethic, integrity, respect, determination, a curiosity for learning and a sense of fun. If you have all these in your life you are going live a good enjoyable life and make a solid contribution to society. But this story is about determination. In my mind, it embodies the best qualities of resilience, grit, ambition, and tenacity. I believe it’s the most important character trait of successful people.

My youngest son, Will, is 20 and in his third year of studying a 5-year civil engineering degree at university. As part of his degree, he needs to organise a 6-month paid internship with an engineering or construction firm. He thought he had everything in place to start in January 2024 when suddenly, at the last minute, he learned that the firm had a major contract delayed and as such they were delaying their intake of internships.

Not only was it back to the drawing board, but he also now needed to organise the internship at very short notice and after most firms had already allocated their internships for 2024. But first, he had to contend with end-of-year exams. He called by one night after uni on his way back to his place and afterwards, my wife said he seemed quiet, and a bit stressed about it all. So, I checked in with him to see where his head was at and if I could help him work out a battle plan of how to best tackle things.

Like anyone, when your plans for life hit a stumbling block, he was feeling a bit flat. But the key to these situations is to keep moving forward. On the day of the bad news, I think it’s ok to decompress and have that day to feel a bit down but that’s it, nothing more. The very next day you get back up and work as hard as you can. When I spoke to Will, he said himself it was quite unmotivating and he was sulking a bit. I reminded him that in 10 or 15 years when he’s an engineer managing big projects, this setback won’t matter. So, there is no point being down about it, get back up, get on with it and get another role.

How we react in difficult times is far more important than how we react in the good times. When everything is going great, it’s easy but when everything turns to mud, that’s tough. How do you respond? Mindset matters so much in our ability to be resilient and convert setbacks into action. Keep the big picture goal in mind and don’t stop working as hard as you can until you achieve that objective.

When I coach young basketball players, I tell them not to look at the scoreboard. I tell them to play the game the right way, with maximum effort and energy. If they do that the scoreboard will take care of itself. But this is the same with everything in life. Attack it with effort and energy and everything will work out. It doesn’t mean you win every time, but it means you’ve done everything you can to give yourself the best chance of success.

So, what did that look like for Will in that moment? I sent him the following text messages:

“Leave no stone unturned to get an internship. Reach out to literally every person you know or have ever met and say…’hey, I need to sort an engineering internship ASAP do you know anyone with a construction company or an engineering firm?’. Everyone ever.”

“Set yourself an unbreakable goal of getting an internship by the end of December and then do whatever it takes to get it. That’s a full month. Guaranteed you get it sorted if your attitude and approach are right. Do a list on a spreadsheet and contact everyone. Minimum 100 people. Be relentless.”

“Ask them who they can introduce you to. Then follow it through. No one is going to blackball you. It shows drive, ambition, determination. Exactly what you want in an employee. You just have to keep pushing and keep your eye on the goal.  Set a target of contacting 5 people a day for a week. Then go to 10 people a day after that. You know a lot of people. You just need to ask them if they know someone in construction or engineering.”

After that, Will sent 10 messages to people in the next hour and made a list of 100 people to contact in the following days. He starts his paid engineering internship this month. But in many respects, the life lessons he learned in having to pick himself up and get his mindset right in order to move forward were more valuable to him than anything he will learn on the job.

It’s really that simple. Almost any problem is solvable if you approach it with that level of energy and effort. We’ve all been here. Where a setback in our career, business or life seems so overwhelming that we end up in a malaise of limbo. But understand that the only thing that solves the problem is action. Decide to do whatever it takes to achieve your goal by a set date. Do everything in your power to make it happen. If you refuse to give up, if you are relentless in your determination to solve the problem, then you give yourself every chance of being able to succeed.

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

Is the S&P500 in a Bubble?

The USA has never seen such a large percentage of its share market represented by so few stocks. The booming share prices of the ‘Magnificent 7’ as they are called (Apple, Amazon, Alphabet, Meta, Microsoft, Nvidia and Netflix) has driven the market higher. But their disproportionate gains compared to the rest of the market means they now make up roughly 29% of the S&P500 index. If you are invested in a fund or ETF that replicates the S&P500 Index that’s the ratio your investment has. Basically 30% to 7 big tech companies and 70% to the next 493.

But does that translate into ‘bubble territory’ for the S&P500?

In ordinary times, it would be easy to for investors to assume that it is because at face value, it looks like a bubble given the rapid rise in share prices. However, the real answer is more complex. There are several nuanced layers to the recent surge in these 7 key stocks so it’s more difficult to quantify bubble territory than usual.

I am usually the last person to say ‘this time it’s different’ because inevitably it is not. A healthy dose of scepticism is a good way to stop yourself from getting caught up in the hype. However, at this very moment, it might be different for several reasons.

It is an unprecedented imbalance that has many investors comparing this situation to previous bubbles such as the dom.com boom and bust and more recently the tech crash following the rise and fall of crypto and the metaverse. The biggest difference here is what underpins the rapid rise.

Perhaps most significantly, these companies are at the forefront of capitalising on the early stages of the AI mega trend. This is not a fad; the AI surge is very real, and it is in my view going to be the most significant technological advancement in history.

AI is going to create huge revenue opportunities and importantly massive productivity gains across the world. In fact, it already is for many companies. As long as the revenue and earnings growth continue to meet expectations, you can justify higher share prices. It is even possible that markets are underestimating just how much and how quickly the exponential growth of AI will change everything in the world in the years ahead.

Secondly, these stocks are mainly online platforms with global distribution and scale unlike anything the world has seen. This is not hyperbole. The nature of technological globalisation is one that allows for access to customers more cheaply and quickly than any businesses have ever been able to.

The third aspect driving share prices higher is simply the weight of money being allocated to these stocks. These global behemoths are the types of businesses that are able to survive almost any economic or political conditions. So, a key element of that flow of money is effectively a flight to safety as investors look to protect capital in uncertain times.

In the past investors bought shares in ‘recession proof’ businesses like Coles and Woolworths or their international equivalent because the theory was people still had to eat. In today’s digital world it’s the tech companies that are essential to our everyday lives. The volatile geopolitical environment has influenced investors too. Similarly, rising global tensions creates uncertainty so investors look at ways to invest their funds so that their capital is protected.

Then there is the allocation through the massive passive funds management industry. These funds allocate capital to replicate exposure to the index. While that is generally a good thing, offering easy investment options it is not without its quirks, biases, or pitfalls. The simple weight of money pouring in gives no consideration to valuations. At a time where a sector is disproportionately weighted these index funds simply pour fuel on the valuation fire and make the bubble worse.

All of this is important context to understand when looking at the market. The recent performance of the S&P500 has been skewed by the performance of a handful of companies. For investors who are older or who have less aggressive risk profiles, exposure to the S&P500 is no longer the diversified exposure to 500 industrial giants in the US market. Its composition has changed significantly and as such the risk investors take being invested there. Most investors have unwittingly increased their risk.

So, while we do have exposure to many of the magnificent 7 in our clients’ portfolios because they are great companies, we do not hold them at the same levels as they are represented in the index. When markets are doing well, investors become complacent and forget to manage their exposure to risk. While the recent surge in big tech may not be a bubble just yet, the distortion in the composition of the index makes it more important than ever for investors to be cautious and prudent in their allocation of capital; not only across asset classes but in considering the underlying assets you hold.

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

Unemployment: The Canary in the Economic Coal Mine

In a world where Japan and the UK are now in recession and China and Europe’s economies slowing; what is the prognosis for Australia and the rest of the world?

For a while now, the anecdotal evidence indicated the Australian economy was trending towards a slowdown, whether from talking to retailers or from conversations with consumers about the cost of living. However, the critical economic measures were not reflecting it. Now that is starting to change. Unemployment rising is the canary in the recessionary coal mine. As the economy slows, businesses are forced to lay off workers. That further reduces the amount of money consumers have to spend in the economy. This creates a downward spiral of slowing business conditions and job losses that ultimately lead to a recession.

Outside of the USA and a handful of emerging markets, there are few regions that display robust economic growth. Part of the reason for the continued strength of the USA share market and economy more broadly is their position as the focal point of the global economy becomes magnified as geopolitical tensions rise around the world. Emerging markets such as Chile, Mexico and Vietnam are doing well as the beneficiaries of the US reshoring their supply chains away from their reliance on China.

China’s systemic issues are a problem, from their over supplied property market through to their over reliance on building and infrastructure to stimulate growth. Overlay the slow but steady shift away from China being the worlds supplier and they are severely restricted in their ability to stimulate their economy. This does not bode well for many economies, especially Australia because of our reliance on the mining industry and China being our key export partner.

In Australia, a recession was always on the cards when you get such a fast rise in interest rates. Interest rates are starting to bite. Its taking a long time but all the signs are there from rising mortgage stress to falling retail sales. However, until there is a greater slowdown in the jobs market it’s a guessing game for central banks as to when to stop hiking rates, let alone drop rates.

We now have unemployment creeping up from 3.5% in June 2023 to 4.1% now. This is data I have been watching most closely as an indicator that Australia is starting to head to recession. A sustained China slowdown, impacting the mining industry here would compound this issue and accelerate the timeline.

Central banks manage interest rates in a comparable way to driving a car. Unfortunately, it’s much more like hitting the accelerator and jamming on the brake rather than moving smoothly through the gears which is how it would work in a perfect world.

The problem then is that there is a lag effect. Once you have that material move in the unemployment rate the wheels of economic decline have already been set in motion. So, in the months that follow, as the RBA works out its next move, it is more likely than not that unemployment keeps rising from here. Until it gets to a level where it is very clear that interest rates do need to be cut. At that point however, real damage will have been done to the economy and it will continue to flow through for some time even as rates are being cut.

What this means from an investment portfolio perspective is that I am very cautious. We are underweight growth assets such as international and domestic equities. We still have exposure to many of the big tech companies across the world that I believe should form the core of your investment portfolio for the next decade. But we don’t hold the level that they represent in the S&P500 index.

We have a strong preference for solid and almost boring businesses that are more likely continue to deliver reliable profits in tough times. Additionally, we are overweight cash and income assets such as bonds and high-quality corporate debt.

We have positioned our portfolios for recession as a realistic risk we want to mitigate against. If it doesn’t happen that’s great for Australia and our portfolio’s will do just fine collecting dividends and interest and adding some growth along the way. However, I’d certainly prefer to err on the side of caution in this environment and continue to protect against the downside risk of a recession.

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

Make the Call

We recently published the 60th episode of the Dion Guagliardo Podcast, featuring Adrian Cester founder of Flavour Makers. It’s one of my favourites for multiple reasons.

Adrian’s story is fascinating, and he is a fantastic storyteller. He grew up in a family business, but his parents went broke in the 70’s. His brother rebuilt the family business only to himself go broke in the 90’s. Adrian is not only humble, but he is engaging and genuine when he talks about his journey through life and business. You’d never guess he was running a business turning over $220m and employing over 300 people.

The learnings that he shared are insightful and can be applied across any field. But there is one story in particular that really resonated with me because of its simplicity and power. The story of how he got his products into the world’s largest retailer, Walmart.  

It starts with Adrian working with Woolworths on their rotisserie chicken flavours. During this time, one of the senior executives at Woolworths, Greg Foran, would occasionally come by to check in. Adrian got to know him from these interactions.  

Down the track, Greg missed out on the CEO job at Woolworths and ultimately left to take on a role as head of Walmart China. Soon enough, Greg was promoted to the top job as CEO of Walmart in the USA. Adrian saw this information in the news and promptly decided to send an email of congratulations. Not knowing his email, he guessed what the few combinations he thought it might be and hit send. Within 15 minutes he had a reply ‘Thanks’ Adrian, I really appreciate it”. 

A few months passed and Adrian wasn’t sure about whether to send a follow up email to Greg about his products. He knew they would be a great fit, but he didn’t want to ‘burn’ his goodwill he had with a great contact as Greg. Eventually he decided he had nothing to lose and just sent an email, saying he thought his products would be a fantastic fit with Walmart. Incredibly, within 15 minutes he had a reply from Greg that he liked the idea. Within hours, Adrian was inundated with correspondence from the heads of various departments at Walmart bending over backwards to work with him.  

The lessons here are twofold.  

The first, more subtle lesson here, goes to Adrian’s ability to foster relationships and be memorable. Developing a business relationship to the point that they will do business with you doesn’t require you becoming best mates and catching up for Friday drinks. That might happen after years of doing business, but to start doing business that person or client needs to know enough about you and their interaction with you to start the process of doing business. If Adrian didn’t keep track of Greg and his career path with a keen eye for what’s going on in the industry, he wouldn’t have even known to send the email. 

The second and most important is to make the call or send the email to that awesome contact that you have. No point sitting on it waiting for the perfect moment. There is no point waiting for the right time. The biggest lesson here is simply to get on with it. Go for it. Everyone in business or sales has been in this situation at some point, or worse, operates in this situation. It’s one of the simplest things to do but very few people do it.   

It brings me back to the stories I’ve told previously about super successful people who did this relentlessly such as Kobe Bryant and Steve Jobs. There are many others too, but it’s a trait of the most successful people that they will make the big call. They are not scared of doing what it takes to level up and improve.  

These lessons apply to all of us in some way. So whatever industry or pursuit you have in life, dream big but make sure your actions are in line with achieving that big dream. If you’ve got a contact that you think would be an awesome client, go after them. Unashamedly go after the whale that will be biggest client you’ve ever had. Make that call today! 

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

Turnaround situations

I am not usually a fan of companies that are ‘turnaround’ situations. Often, such companies are poorly run or in industries clearly in decline. A turnaround situation is usually best avoided as they tend to be bad companies with a new story to tell investors. However, every so often, there are genuine turnaround situations that present an opportunity. These are worth looking at more closely.

One of the more incredible examples of a company turnaround has been Meta (formerly Facebook). We own the stock in many of our client portfolios, bought at varying prices over the years. The company is much more than Facebook these days as they own a suite of brands including Instagram, WhatsApp, Threads and Reality Labs.

As with many tech companies during covid, Meta was caught up in the boom of the prior year and by 2021, had hired too many staff and were spending way too much money on non-core areas of the business. They even changed the name of the company from Facebook to Meta to better symbolise the future strategic direction of the company, the metaverse. There is a great 1-hour video of Mark Zuckerberg talking about the future of this technology and how transformative it will be for the world and the company he founded back in 2004. In many respects, it is the way a visionary founder needs to think to build a company. But when economic conditions change, more prudent management is needed.

Suddenly, in late 2021, everything changed in investment markets and technology stocks’ share prices were hammered. It appeared Meta’s user and revenue growth was slowing, and the company had overcommitted in many areas of spending including over US$10 billion every year in high-risk research and development in the metaverse via Reality Labs. It appeared that Meta might no longer be the high-growth company everyone thought and may actually be entering a more mature phase. This would mean a much lower valuation. The shares fell from US$372 to under US$90 per share.

For all the problems Meta faced at that time, there were a few things going in their favour. They had a huge reliable revenue stream, a product that was very addictive and massive amounts of data. They knew the levers to pull and were able to learn extremely quickly what to adjust. The turn around began in earnest when they fired over 10,000 people and cut their spending dramatically. It was a sign of prudence and more appropriate management that was needed. In the past 18 months, the company’s turnaround has been nothing short of spectacular. Since implementing the changes, the stock price has rocketed up to an all-time high of US$474. A spectacular return for those brave enough to buy the stock near its lows.

One of the more battered stocks that has piqued my interest in the past few months is Disney. It was hammered during covid, and it has struggled for a few years. But the company has something that few companies have. Franchise power. They own so much of the content, characters and stories that people grew up on. As their slogan goes it’s “The happiest place on earth” but not so much for shareholders recently. However, there is something magical about all the brands they own.

If LVMH is the owner of many of the world’s most irreplaceable luxury brands, then Disney is the equivalent for kids and entertainment. Disney is far more than Mickey Mouse and Donald Duck these days. With brands such as Marvel, Star Wars, Pixar and ESPN to name a few and you’ve got franchise power like no other. Not to mention streaming, theme parks, hotels, and cruise liners.

With the recent return of legendary CEO, Bob Iger at the helm, Disney has started to cut costs and improve its results. The difficult conditions for consumer business won’t last forever and such strong franchise power is rare.

While turnaround situations are not companies I typically prefer, there are certainly times when situations converge to create opportunities that are worth considering. Meta is a polarising company with a lot of work ahead of it in terms of compliance ethics and regulation, but its recent turnaround is a great example of what can be done with the right foundation. Disney is a different type of business, but it has a franchise power and brand recognition that only a few companies in the world possess, such as McDonalds and Coca Cola. It’s certainly worth paying close attention to their progress as they try to turn things around.

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

10 Themes for 2024

1. The rise of AI

2. China slowdown

3. Geopolitical tensions  

4. Energy 

5. Falling interest rates 

6. Government bonds 

7. US election

8. Rising unemployment 

9. Government debt

10. Austerity

Many years ago, I remember reading that as you progress through life you first acquire information, then knowledge, and ultimately wisdom. So, it occurred to me at the time, some 25 years ago, that as the internet started to really change the world and usher in the “Information Age”, technology would eventually lead to the “Knowledge Age” and one day hopefully a “Wisdom Age”.  

With the breakthroughs in artificial intelligence in the past two years, I genuinely believe we have now entered this second great phase, the “Knowledge Age”. Advancements in technology continue to grow exponentially with none more exciting and impactful than AI, which is still in its infancy. This year will see AI become more mainstream and integrated into our lives than ever.   

With regard to AI investment, opportunities remain endless as every company in the world rushes to implement the technology into their business in every way they can. This is a multi-decade opportunity just as the internet was before it. This is not just about the mega tech companies, it’s about every company. The changes ahead will be genuinely transformational for the human race.  

Beyond China’s challenges in the property and debt markets, their economy is still coming to grips with western nations reducing their reliance on Chinese supply chains. It is China where I suspect the first economic domino to drop. A more severe economic slowdown or crisis in China is certainly a potential catalyst for triggering a range of other domino effects across the world. The prospect of an ongoing slowdown in China will make conditions especially difficult here in Australia.  

With every new international conflict, the USA becomes more distracted, and their resources, power, allies, and control are diluted. Before those more idealistic and critical of the USA military become too excited about a weakened USA, for all their flaws, the USA, and its military might remain necessary for global stability. Their enemies though, already realise this and are more emboldened than ever knowing that they can get away with more than they usually would. The risk of escalation is high as spot fires of war spring up around the world. The prospect of conflict becoming bigger or entrenched globally is real. There are significant economic impacts here from inflation to global trade.   

Energy remains a high-conviction long-term investment theme despite the prospect of a slower economy. The move to clean energy is slow and expensive while there has been a chronic underinvestment in traditional energy, such as oil and gas, across the world. This dynamic combined with the potential for supply disruption due to geopolitical tensions across the Middle East and Europe may well see a higher oil and gas prices in 2024 and beyond. 

I think this year we will see interest rates stay too high for too long and with that a global recession will see unemployment rise sharply before interest rates are reduced. There remains a chance of the ‘Goldilocks’ scenario unfolding if central banks can orchestrate the perfect balance, but I have just never believed that to be a realistic scenario to use as a base case. Human nature and by extension that of our economy and society more broadly is one of extremes, not balance. It’s why we get booms and busts.  

The opportunity in government bonds is uniquely exciting given it’s the world’s safest and usually most boring asset. After a couple of very poor years where we almost completely avoided this asset class, bonds are back in 2024. You can pick up a 4-5% income yield these days and with the prospect of interest rates starting to fall later in the year, bonds are poised to deliver solid returns in 2024. Bonds could easily achieve a 10%+ total return with very limited downside risk.   

Elections don’t usually move investment markets significantly. However, the US presidential election is set to be different. Perhaps the most polarising figure in the world this century is Donald Trump. I’ve been saying for a while that by the end of 2024 Trump will either be in jail, dead or president of the USA again. I don’t know which, but I will not be surprised by any outcome. If he wins back the presidency, which I think is very possible, the world is in for a shock as he is likely to be far more ruthless and bold this time around. 

The US government debt is now $34 Trillion and growing fast. Expect Government Debt to be an election topic in the US and other countries where debt is at record highs. There will come a time whereby the people will have had enough and smart politicians will campaign on that basis. The first steps will be to balance budgets and that will require increasing taxes and cutting spending. Austerity is likely to re-enter the political, economic and consumer conversation for the first time in a long time.  

The world sits as a virtual tinder box awaiting a match to set it alight in a way that has not been seen in my lifetime. I know we’ve seen 9/11, the GFC, and the Gulf wars, but the set of circumstances the world now faces are potentially more concerning than at any of those times. I say potentially, and that is key, things may not play out that way, but from an investment perspective prepare for the worst and hope for the best.  

Regardless of the situation I am extremely optimistic about the future for both investment markets and the world. There will always be set back and conflict but time after time people rise up and continue to succeed. Maybe in the decades ahead we can look forward to a transition to a more peaceful Wisdom Age but for now there is much to be excited about as we enter the Knowledge Age.  

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

From Geraldton to Sydney: My Story So Far

I caught up with one of my recent podcast guests for an early Christmas drink on Friday when he asked a question I have been getting more often these days. He asked, “When are you going to be a guest on your own podcast and tell us about your journey?”. I then shared a few stories about my journey. He seemed to think it was a fascinating story and joked that he wanted to buy the story rights. Having lived it the reality is less exciting, but I can appreciate that it’s a story worth sharing with some great life lessons I learned along the way. Firstly, you never know who is listening and the opportunities that follow. Secondly, go all in and don’t be afraid to make a big move. Thirdly, trust yourself and back yourself. Fourth, these things only work because my wife and family were all on board and supported me 100%. Fifth, don’t stop growing and building. Ever.

First investment role in Geraldton (1998)

I was at a BBQ in early 1998 in Geraldton with my dad and a few of his mates, mainly blue-collar types, plumbers, and tradesmen were sitting around chatting. One of the blokes though was an accountant and started big-noting, talking about shares, and quoting Warren Buffett. I was only 21 and only a couple of years earlier was working for Dad’s earthmoving business as a labourer on the shovel. But I was well read and had been investing in shares for a couple of years on my own and was particularly fond of a good Warren Buffett story even back then. So, after hearing the accountant butcher the stories for a few minutes I explained that he’d got a few things wrong, provided the correct story and explained the concepts properly to the others. I thought nothing more of it. But you never know who is listening and paying attention.

A few days later the plumber who hosted the BBQ, known to everyone as Pirate, phoned me. He said that there was a wealthy investor there that day at the back of the room and he was really impressed by my knowledge and how I handled myself. The investor had spoken to his investment adviser, and they wanted to meet with me and offer me a job. My wife, Paula, was expecting our first baby but within weeks I had joined his firm. It was the best apprenticeship you could ask for. The firm advised many of the wealthiest people in the area, farmers, cray fishermen and business owners. My education and study were fast tracked, and I was authorised as an adviser. Within a couple of years, I’d finished my study, achieving the highest marks in the state and became a Certified Financial Planner in early 2003.

The move to Perth (2003)

By the age of 27 Paula and I had 4 kids under 5. I was trying to negotiate a pay rise with the firm I was with and wanted to buy into the business and become a partner. Negotiations were moving slowly mainly because there were limited options for me outside of where I was. There were no other firms as sophisticated as where I was at and with 4 kids and a mortgage, I wasn’t ready to start my own firm yet. I had vowed I’d never leave Geraldton and would be a country bumpkin forever. But backed into a corner and frustrated, I came home from work one day and said to Paula “What if we did move to Perth?”. That night we sat up in bed and wrote a list of pros and cons. By the end of the night, we had a list of pros that were all about exciting opportunities and growth, while the cons were effectively ‘security blanket’ type reasons to stay, family, friends, and what was comfortable. We decided that night to move to Perth. Paula was equally as excited for our new adventure and unwavering in her belief in our ability to make it work.

Once a decision was made, mentally we were all in. Three months later in August 2003, we moved to Perth to start the next exciting chapter of our family. In that 12-week period, we had made the 8-hour round trip from Geraldton to Perth 11 times to organise job interviews, house, and school. I had completed many job interviews and after 3 interviews with JB Were I was excited to be joining one of the most prestigious firms in the country at the time. Then, at the 11th hour when we were about to move, Goldman Sachs acquired JB Were and put in place a hiring freeze. That role wasn’t going to happen. But at that point, I didn’t care, we weren’t going to let that stop us, so we made the move anyway. I had no job but worked the first month in my uncle’s truck yard until I found one.

Starting Fortress (2007)

Over the next 3-4 years I worked as a Senior Financial Planner at stockbroking firm, Bell Potter and then a smaller boutique firm. I was steadily building a client base when I was referred a new client by an accountant (incidentally they are still clients to this day and now in their 80’s). It all went well, and the accountant was impressed. At a meeting shortly afterwards, he had a proposal that we start a business together. We’d own the company 50:50 and he’d underwrite a great salary for the first 12 months. I was 31, the kids were all at school now and Paula was a full-time mum. So, the opportunity to start my own firm and still have a salary was the perfect deal.

We registered the company Fortress Financial Pty Ltd in March 2007 and opened the doors a month later. We had a number of new clients join us. But I was concerned about the global economy and what was developing overseas. We held money in cash and waited. We had some clients become impatient with my inactivity and they left to go invest the money more quickly. It was quite difficult to manage growth while tempering client expectations that we should be investing. Over the next 18 months the Australian share market fell 56% as the GFC took hold. I had retained more than 70% of client’s funds in cash during that period though what we had invested had dropped in line with markets. We had done very well for clients in that phase, and I was immensely proud of how I managed that crisis for both clients and the business. However, no one will thank you when their portfolio is down 15% even though it could have been a lot worse. But we weathered the storm and were all the wiser and stronger because of it.

The move to Sydney (2011)

By 2011 the business was growing solidly, markets had improved, and Paula and the kids were all well settled. Along the way, the kids had been IQ tested and found we had 4 little Einstein’s. The boys were now at Wesley College in Perth, our oldest skipping 2 years and was in year 9 at age 11 while the other kids skipped up 1 year. The girls were at St Hilda’s and doing great. But as gifted as they were none of them were the sort of kids who study all the time, get straight A’s, and become doctors. They were all quite different and alternative in their own way. Being a parent of kids like this meant you really needed to be a part time psychologist. But what was clear to me was that with all their quirks a bigger city like Sydney was going to be better for them to allow them to thrive and find their tribe.

At the same time, from a business perspective, I wanted to be where I felt the financial action was. I’d grown up around earth moving and machinery and I found the mining aspect of WA boring. I was more interested in being in a place that was a real financial hub and global city. One day I came home from work and said to Paula, “What if we moved to Sydney?”. We again did a little list of pros and cons and we started to get excited about the idea. The kids were settled, they had good friendships and the older 2 were in high school. Moving from Perth to Sydney would be a bigger and much more complex move for our family now than the one from Geraldton to Perth. There was also another catch. Neither Paula nor I had actually ever been to Sydney. We only knew 1 person in the entire city. But I didn’t care about that, I knew what was best for my family and we’d work it out.

Knowing how life-changing such a move was going to be for each of our kids, we knew the kids needed to be as excited about it as us. Before we told the kids we were going to move, for about a month Paula and I started highlighting really cool things about Sydney. “Wow, kids there is a Pokémon event on in Sydney next week, how cool” or “Imagine being able to go Luna Park any time we wanted”. After a few weeks, the kids thought Sydney was the greatest place in the world, lamenting the fact that they had to live in boring Perth. A few weeks later when Paula and I said, “What if we lived in Sydney?” we had 4 kids begging us to do it.

From the time I first talked to Paula about moving to Sydney to the day we actually moved was 3 months. Same time frame as the first move. Once we decided to move it was too exciting not to go all in and just get on with it. Funnily enough, it never seemed like a big deal, there was a lot to organise, but we’d just tick the items off one by one and we’d work out the rest. If we didn’t like it or it didn’t work out it was pretty simple to come back if we needed to.

Fortress Family Office (2023)

Once in Sydney I joined Wilson HTM (Wilson Advisory today) as the Head of Financial Planning in 2011 while still retaining Fortress and our clients. I had recently completed a Master of Business Administration (MBA), and this was the potential precursor to roll Fortress into a much larger business and commence my corporate career. It was very appealing at the time to link in with a much bigger and better resourced firm. However, I had overestimated these benefits and there were added layers of bureaucracy and politics that I wasn’t interested in. By 2014 I’d left the role at Wilson’s and proceeded to obtain our own Australian Financial Services Licence (AFSL) for Fortress. I was determined from that experience to never work for anyone else ever again. I brought in Jon Fyfe as a partner and together we bought out the accountant’s 50% share. Unfortunately, in 2019, Jon moved back to home to Queensland with his growing family to take on a completely different business and lifestyle opportunity in agriculture. I always admired his decision to make such an important move when many others would have stayed where they were.

Around the same time my youngest child finished high school. It gave me the opportunity to consider the business and what I really wanted to do. Understanding that I loved financial markets and working out the investment landscape led me focus on how best to share my thinking. That led to this weekly insights note. Understanding that I genuinely loved hearing the stories from clients and other company founders led to my podcast. It is a privilege to learn from such interesting people and it’s been fantastic to have some of our guests join our firm as clients. More importantly, I continue doing what I do best which is advising clients on their investments. Understanding that I wanted to do this forever helped me focus on the next part of the puzzle. I think we’ve got a great foundation here at Fortress and in this next phase, I really look forward to the challenge of building a great business for the future.

The Bubble of Confusion

One of the more random books on my bookshelf at home is one I bought many years ago called “Self Defence in 30 Seconds”. The author, Robert Redenbach, is a specialist in teaching self-defence tactics. There are several passages that I think apply equally well to investing as they do to self-defence. He outlines the three phases of a pressure situation where you need to defend yourself as follows:

• Phase 1 The Error

• Phase 2 The Bubble of Confusion

• Phase 3 The Result

In his opening sentence he writes: “There are only two rules for self-defence: 1) avoidance and 2) survival”. Avoiding bad situations seems obvious but it’s possible you take a wrong turn and end up in a dark alley in the wrong end of town. This is an example of an error.

From an investment perspective, everyone is still underestimating the dark alley of high interest rates and debt. That’s the error. I would love for a soft landing to be a real outcome. For the economy and for share markets. But if history and my experience are anything to go by that is not how it usually plays out.

The bubble of confusion he refers to is a 30 second window you get where you’ve walked down the wrong street, and you realise you made an error. You’ve got 30 seconds to survive what happens next. Still on the first page he states:

“… It is a tactical error to believe that if you can’t defend yourself in the first 30 seconds, more time in the affray is going to help. It won’t. It’s like trying to save yourself from drowning: if you can’t do what needs to be done in the first 30 seconds, more time in the water is going to make the situation worse, not better.”

For investors, the best option is to avoid being caught in the error. But if you can’t avoid it be sure you are positioned to survive it. That means reduced exposure to downside risk assets and reducing or even eliminating debt. These situations evolve very slowly, they build up over years and they take longer to peak than anyone expects. Then it all happens very quickly.

For investment markets, as it becomes clear that inflation is coming down and the economy slows investors will enter their own bubble of confusion. They will celebrate a return to the good old days (2010–2021) as they anticipate a return to low inflation and low interest rates.

With US inflation at 3.2% and Australian inflation figures released yesterday down to 4.9%, prices are no longer increasing like they were a year ago. The reason for the confusion is that the set of economic conditions that occur as inflation falls look the same as the early stages of the economy entering a more severe slowdown including a recession.

I expect the next 6 months through to mid-2024 to see much of the world enter this bubble of confusion. Investors will latch on to the ‘good news’ of lower inflation before realising that its actually ‘bad news’ as the lower inflation becomes a lead indicator of a global economy starting to slow more significantly. Frankly, it’s better that this happens sooner. If inflation rears its head again later it only forces rates higher and defers the eventual ‘bubble of confusion’ phase, making the slowdown more brutal when it arrives.

Australia will be especially vulnerable with inflation that’s now ‘homegrown’ and a reliance on potentially economically hobbled China. It’s a question of whether the economy, once it slows, settles to a nice soft-landing phase (what the market expects) or if it falls off a cliff (not what the market expects). These events tend to drag on until a sudden tipping point where things decline rapidly as the bubble of confusion ends with a result.

The path to a hard economic landing often looks and sounds like a soft landing until it’s not. In fact, I recently read a headline in the Financial Review stating that investors are expecting a “soft landing recession” I don’t even know what that means. Investors, commentators, and governments will contort themselves in every way to sound optimistic.

Ahead of every crisis I’ve ever seen over the last 25 years, I cannot tell you the number of times that almost every expert or government agency provided commentary or opinions that the emerging event was not in fact a crisis or a problem. Once there is clearly a problem the message becomes ‘it won’t last long’.

To be fair, governments are tasked with maintaining order, so they are going to provide the advice that’s required to ensure the best overall outcome. Investment institutions are tasked with making money, so they are never keen to talk negatively about markets.

This is very often at odds with the best outcome for any individual investor. Those messages are designed to manage the masses. More often than not as a crisis emerges, those proactive first movers who act counterintuitively to the crowd, recognise the problem and act are better off than the person who sits on their hands and lets it happen to them.

It’s critical how you assess the data as it emerges, how prepared you are, and how quickly you act will determine your result. These basic principles apply equally to managing investments in an economic crisis as they do in self-defence.

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

How Much Do You Need to Retire?

A typical client comes to us with a range of assets that they accumulated in an ad-hoc fashion over time rather than from the execution of a master plan. Not everyone who is wealthy is financially sophisticated. Often, they were just really good at what they did, whether that was running their construction or earthmoving business or being a great doctor or lawyer.

Most of our clients are not financial experts; if they were they wouldn’t need us. However, they are smart and recognise the importance of seeking the right advice to optimise their position. I’ve had people with tens of millions of dollars asking me if they had enough to retire. As much as it surprises me, it is a great reminder that everyone worries about the same types of things when it comes to retirement:

• How much do we need to retire?

• Do we have enough to retire?

• How long will my money last?

There is not one simple answer because everyone’s situation is different, but these are easy questions to address. In financial terms, the three questions above are all a variation of the same equation, the basic variables of which are income, expenses and capital.

But for the purpose of the general concept, simple numbers are the best place to start. If you require income of $250,000 p.a. to meet your expenses in retirement and a typical investment portfolio produces income of 5% p.a., then you’ll need $5,000,000 in capital.

If you have more capital than this then you’ll be fine. If you have less capital than this then you have a decision to make, and you can either reduce your expenses or you can deplete your capital. There is no right or wrong answer it is up to you. But you need to understand the numbers.

I can’t emphasise enough how important it is to understand the context here and the impact of even the most basic variables. If we change the assumption for the typical investment portfolio in the scenario above to, say, 2.5% p.a., then you’ll need $10,000,000 in capital to generate the income figure of $250,000 p.a.

With regards to dipping into capital in retirement, people tend to fall into two camps; those that are worried about spending any of their capital and those who are more concerned about trying to use it all before they die. My philosophy here takes into account real life, not just the financial side. When you’re 65 maybe you live for another 30 years, maybe you live for 2. But I’ll say this, life is short, and I have not yet seen anyone get healthier and more active as they got older.

The reality is that your first 10 years of retirement are going to be your best, so make the most of it. If you are 65 and have $3,000,000 in capital and you spent $50,000 from your capital to have an amazing holiday every year for 10 years does it matter that at 75 your capital has reduced to $2,500,000? Probably not. What if you don’t make it to age 75?

Obviously, the above scenarios are basic and don’t consider specific circumstances, tax, inflation, and whole range of other variables but the overriding concepts and philosophy still apply. For our clients we complete sophisticated financial models that include a range of assumptions around returns, inflation, tax structures and scenario planning to ensure they are prepared for the future and have peace of mind. Certainly, if the three questions at the start are keeping you up at night then it’s probably time to get that type of advice and start planning properly.

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

The good, the bad and 2024.

With so much bad news out there in the world for investors to worry about there’s one key element that has been strangely missing so far. Sure, there is some good news which I’ve highlighted below, but there’s nothing in there that’s really driving share markets. What is missing, despite all the bad news, from geopolitical tensions escalating to deteriorating economic data, is the absence of the bad new turning into an ugly financial or economic crisis. That is what is really kept markets from falling. There have been a few times where issues have bubbled to the surface, such as the mini banking crisis in the US in March this year, and the UK bond & pension fund crisis in September 2022, but these incidents so far have been managed and curtailed before they escalate.  

Some of the good economic and investor news out there is that:  

1. Inflation rates across much of the world have fallen reasonably quickly from their peak.  

2. Unemployment has remained low signalling a robust economy. 

3. Home prices have been resilient on the back of a supply shortage. 

4. AI and mega tech continue to grow. 

5. You can now get a solid yield on government bonds and term deposits of around 5%  

6. US GDP unexpectedly high in Q3 at 4.9% 

7. I’d like to say that this list is not exhaustive, but I can’t really think of anything else. 

8. But by all means please let me know if I am missing anything. 

The list of bad or concerning news is longer and more serious: 

1. Interest rates are looking like they will be higher for longer. 

2. Volatility in the price of oil.  

3. Consumer spending is slowing. 

4. Bond losses mounting at banks, pensions funds and other institutions. 

5. The Ukraine war is nowhere near resolved. 

6. Middle East tensions rising and the risk they escalate and spread. 

7. China and Taiwan risk. 

8. China and tensions with the US and Australia.  

9. UK inflation is still at 6.7% with rates trending higher. 

10. Risk of fragmentation in Europe as interest rates increase. 

11. Energy shortage in Europe. 

12. Japan moving away from yield curve control on their bonds. 

13. US Federal Government runs out of money every couple of months. 

14. US Federal Government’s annual budget deficit is around USD $2 trillion pa.  

15. US Federal Government’s debt is now over USD $33 trillion. 

16. Mortgage stress in Australia with 30% in distress according to Roy Morgan report. 

17. US mortgage rates hit 7.5% for the first time since Nov 2000. 

18. Rising insolvencies and bankruptcies at the highest levels since 2010. 

19. Retail sector seeing significant declines. 

20. Office property sector struggling with vacancies and higher debt costs. 

21. Corporate debt cliff as company’s refinance at significantly higher rates. 

22. China’s economy struggling with massive debts and property losses.  

23. Corporate earnings forecasts too high and may be revised downward. 

There are two main concerns with the above list. Firstly, just the sheer number of areas that are currently problematic and heading the wrong way. Secondly, the real issue is that any one of the 20 plus items on this list can escalate into a genuine crisis. What has kept investors complacent and share markets resilient is that while there is a lot of bad news out there not much of it if any has morphed into an ugly crisis situation from an investor or share market perspective.  

I don’t believe that can continue in 2024. I think investors and share markets especially are underestimating the risks that exist in the global economy. The risk that any of these precariously placed bad new events deteriorate and become a major problems that compound other areas and lead to contagion. What’s more there is the ever-present threat of a black swan event, an event no one predicts, eventuating that shocks the system. The global economy has very little room to move now.   

For long term portfolio investors, many of these issues are related and link back to interest rates being higher for longer. Its critical to understand the massive implications this is having on the global economy now and into 2024. Understand the potential risks so you make decisions regarding asset allocation as required and so you are able to take advantage of the opportunities ahead as the cycle progresses.  

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

Here is the conundrum

The US Federal Reserve is between an economic policy rock and a hard place. They are committed to reducing inflation to 2%. To do that they need to raise interest rates. They have increased interest rates from 0.08% Nov 2021 and are now at 5.33%. Inflation is falling. In the USA, inflation was 9.1% Jun 2022 and is now 3.7%. But it’s not at 2% yet. As much as it’s come down, hitting the target is proving to be sticky.

So, that is the conundrum. To solve it, the Fed can take one of two paths:

A. They raise rates until they get to 2% inflation, or

B. They raise rates and stop before it gets to the target hoping that momentum carries it through to the 2% target?

The problem is that there is a very real time lag between raising rates and seeing its effects flow through to the economy.

With option A, if they increase and hold rates until the targeted inflation rate is reached then it is almost certain that the months that follow will see the time lag impact the economy very significantly. It will likely cause a recession. Interest rates will then need to be cut quickly to offset the damage. But there will certainly be economic damage.

With option B, the risk is that inflation rears its head again if they stop too soon. It also begs the question of when you stop raising and how long they should hold rates for before realising inflation isn’t going to reach the target. Higher inflation, if it becomes entrenched, is an economic cancer that will riddle a nation’s stability.

Right now, in spite of all the interest rate increases, the US economy is surprisingly quite strong. Normally a strong economy is good news for investors because it generally translates into good business conditions and in turn good returns for shares. It would normally be bullish for the share market.

So why am I bearish when the US economy is relatively strong?

It’s because it means that while inflation has come down, the underlying strength of the US economy indicates that so far, the rate increases haven’t yet slowed the economy enough. To get to the 2% inflation rate sustainably will require some economic pain. At the moment, too many of the key indicators such as unemployment and GDP still seem to be running too hot. Unless the US economy starts to slow, I think it means that rates in the US may go up further during 2024.

After trying to manage the inflation issue using option B, I think that in the end the US Federal Reserve will need to revert to option A. It will result in significant economic consequences including a recession. That’s why I am bearish on stocks and the economy. I think the relative strength we continue to see only means that the interest rate environment stays higher for longer until they get inflation well under control. Achieving that will ultimately mean the central bank will break something in the economy.

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.

Are bonds back?

Normally government bonds are boring, but if you’ve followed the bond market over the last couple of years, they’ve been anything but. Not in a good way either. As US bond yields moved from effectively 0% to now 5% it has created huge losses across the world. Those holding those losses include some of the world’s best investors and biggest institutions. Some of the world’s biggest banks and pension funds are sitting on hundreds of billions in losses. Luckily at this point, not many have had to realise these losses but make no mistake they are there, and they are potentially a problem. 

The higher bond yields go though, and the closer they get to a peak, the more compelling the case for investing in high quality fixed rate bonds. For our portfolios we hold overweight positions in defensive assets already but its primarily made up of cash, term deposits and floating rate bonds and notes. The question becomes whether bonds are becoming more attractive than those assets and indeed whether they are becoming more attractive than equities on a risk adjusted basis. When you consider their much-improved income there is a case emerging for increasing the allocation to high quality low risk bonds. 

During the period of extremely low interest rates, I strongly recommended against holding fixed rate bonds in investment portfolios. Rates at almost 0% were a historical anomaly that were never going to stay that low and when they eventually went back up, the value of bonds fall. Meanwhile, investment managers everywhere seemed to be blindly allocating to bonds as a defensive asset when a unique set of global factors collided to create a once-in-a-lifetime bubble in bond prices.

Who can forget the weird anomalies that the era of super low rates created for bonds? There were the 100-year bonds issued by Austria paying less than 1% pa (they’ve since lost as much as -70% in value. But don’t worry if you hold them until the year 2120, you’ll get your money back). Crazy stuff. Then there were the bond yields for countries such as Germany, Sweden and Switzerland who saw the yields on trillions of dollars of their bonds go so low that they went negative for a period of time. Investors actually paid these countries to hold their money for them. Madness. It was always going to end in tears as soon as a level of normality returned. 

That’s where we are now as far as bond yields go – more normal bond yields. Not much else in the world is normal right now but that’s part of the turmoil ahead as the world adjusts to these changes. However, with bond yields having increased so much it is now time to step back and reconsider fix rate government bonds as an investment. The case for bonds is starting to become attractive on both an absolute return and a relative basis. I expect money from equities will soon enough start flowing into the bond asset class in a substantial way. 

You can now get 5% from US Government bonds, still considered to be the global benchmark for a risk-free investment. What it means is that every other investment needs to pay you more than this to be worth your while. How much extra will depend on the type of investment and the level of risk associated with it. For other countries bonds its similar rates but heading higher, for higher quality corporate bonds it’s more like 6-8% and for lower quality companies more like 9-10%. 

If, like me, you are bearish on the stock market and believe we are still headed for a recession (my base case) or a deep recession (possible) then the case for bonds is becoming more compelling. The more the economy slows, the more likely it is that governments need to lower interest rates down the track. In that case, falling interest rates will deliver bond investors a further gain as bond values increase. While I think there is economic and financial pain ahead for investors if interest rates across the world staying higher for longer, there is a positive for investors as bonds emerge as an opportunity.

General Advice Disclaimer: This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you. Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.