Autumn Edition 2007
Economic & market commentary
Can the carry trade carry on?
Complying pension window closing
Product review - MSF Water Fund
Welcome to the re-launched Investment
As you may be aware, it was our intention to move to a national newsletter
going forward. However due to a variety of reasons, the major one being
restrictions within the Corporations Act, we have decided to continue
with our current format but give it a new look.
The approaching financial year’s end and new financial year represents one
of the largest changes to the superannuation and retirement system since
it was introduced. We have devoted significant space within our previous
newsletters to the opportunities that these changes represent and I encourage
anyone that has not reviewed their position in light of these very generous
concessions to do so before 30 June.
The recent volatility we have seen in Australian and world stock markets
has proved to be a timely reminder that markets will behave erratically
and that long term investing requires discipline in both rising and falling
markets. This is probably best summed up by the Oracle of Omaha, Warren
Buffet, who once defined investing as ‘The transfer of wealth from the
impatient to the patient’.
Associate Director - Wealth Management
Economic & market commentary
U.S. Federal Reserve Bank officials of the Euro zone economy. In spite
were somewhat confounded in March of this economic robustness, at the
with a raft of mismatched economic March monetary policy meeting the
data painting a confusing picture. ECB raised interest rates by 0.25%
There was continued strength in the to 3.75%, the seventh increase since
employment market and persistent December 2005, although this was
inflationary pressures. These were widely anticipated.
then counterbalanced by a slump
in investment spending and rising The emergence of China as a large
mortgage delinquencies emanating player in the foreign currency markets
from the sub-prime housing sector. was highlighted by the Central Bank
In a speech to Congress in late governor of China, Zhou Xiaochuan,
February, Federal Reserve Chairman who advised that as a result of its
Bernanke forecast the economy growing trade surplus, China has
to grow 2.5% to 3% this year the largest foreign exchange reserves
and 2.75% to 3% in 2008. of any country in the world. As a
result, in March they announced
In Europe, the ECB’s economists raised the establishment of a new body to
their GDP forecasts for this year by manage a portion of these US $1,000
0.3% to 2.5% and increased next billion-plus holdings.
year’s forecast by 0.1% to 2.4%,
signalling a belief that European Recent events involving the so called
demand will remain stronger than ‘Axis of Evil’ with the capture of British
the estimated potential growth rate Marines by Iran, the worsening
situation in Iraq and the failure of Most overseas markets held ground
North Korea to meet its latest nuclear over the quarter, which is a pleasing
deadline, continue to provide result given the 9% fall in Shanghai
instability to the geopolitical situation. in February that led to larger falls
This, coupled with reports of closer around the world.
collusion between Iran and North
Korea on missile development, adds Outlook
further complications to a delicate state
of affairs. Last quarter we noted that a correction
in the markets was coming, which
With the U.S. Presidential election arrived in February. The fact that
now only 18 months away, candidates’ this was recouped by the end of
policies on these three issues will not the quarter indicates that it was
only shape the election, but perhaps more likely a pause, rather than the
also the landscape of both the Middle correction we have been looking
East and the Korean peninsula. for. With the continued strength
in Australian and Global economies,
Domestic economy such a correction could be some
time in coming. Tensions in Iran
Australia’s economy grew twice as and the Middle East still appear to
fast as forecast in the final quarter be the potential catalyst for such a
of last year as consumers and correction and should be monitored.
companies increased their spending
despite the worst drought in over
a century making a severe dent in
Can the carry trade
The Australian dollar broke through
the 80c barrier and reached its
highest levels in 10 years, with some With the appreciation in the Japanese
predicting it could reach parity with Yen and a view that monetary
the U.S. if the resource boom is policy will be tightened over the
sustained. coming years, there has been much
discussion lately about the Yen carry
Record global commodity prices
trade and the implications it will have
continued to stimulate investment
on financial markets. Before we delve
and employment in mining and
into this subject let us first discuss
infrastructure projects, causing a
exactly how the ‘carry trade’ works.
positive flow on effect on construction
and consumer spending. This is Put simply, it is a strategy whereby
particularly the case in WA, which an investor borrows money in one
is experiencing a sustained property currency (Yen) and then converts
boom never seen before. this to another where it invests at
a higher rate than which the monies
Investment markets have been borrowed at. For example,
let’s say an investor borrows 1,000
Australian shares performed well
Yen from a Japanese bank, converts
over the March quarter, showing
the funds into Australian dollars
resilience against the sell-off in late
and invests into a term deposit for
February which saw over 6.5%
the equivalent amount. Let’s assume
wiped off the value of the market.
that the deposit pays 5.8% and the
Movements were: Japanese interest rate is set at 0%.
The investor stands to make a profit
S&P 500 (U.S.A.) 0.18% of 5.8% (5.8% - 0%), as long as
the exchange rate does not change.
FTSE 100 (U.K.) 1.40%
MSCI Asia (Ex Japan) 0.81% If a leverage factor of say 10:1 were
Nikkei 225 (Japan) 0.36% used for the borrowings (which is not
uncommon), then the profit will be
ASX 200 (Aus.) 2.80% magnified 10 times to 58%.
The size of the carry trade market However many believe that this
is quite astonishing at an estimated year marks the beginning of an
$335 billion which is bigger than the unwinding of this carry trade and
Australian economy. The February that it will pose a significant threat to
sell off in markets triggered a 4% financial markets. While some analysts
one week rise in the Yen as some such as Howard Simons from Bianco
investors bought the currency to Research in Chicago, believe that “the
repay their positions, which is of no unwind, if its starts to occur, is not
surprise as this type of movement going to be a one week occurrence
has been seen before. but rather over a long period”, others
disagree believing the impact may be
During the Asian Financial Crisis in quicker. Patrick Fearon, an economist
1998 the Yen jumped 20% in two with A.G. Edwards & Sons, noted
months. But more astoundingly that “even if the Bank of Japan (BOJ)
12% of this occurred in 72 hours, holds rates steady—as it is widely
as investors rushed to buy Yen in expected to do —a rise in the Yen
order to repay their carry trade itself could spark a self sustaining
borrowings. In order to convert to unwinding of the carry trade”. But
Yen, investors needed to firstly sell will the Bank of Japan actually hold
down the assets they owned and rates steady? Takashi Miyachi, a
then convert the local currency senior currency dealer in Tokyo at
to Yen. The follow on effect of Mizuho Corporate Bank Ltd, is not
falling stock markets, asset prices so sure.
and currencies was one of the key
contributors to the crisis. Miyachi noted on April 19 that
“there have been some rumours
One of the key determinants in the that the BOJ will raise rates in May,
carry trade is the rate spread between especially among foreigners”. This
Japan and the country that the is despite Governor Toshihiko Fukui
investment is made. Currently this and his policy board colleagues voting
spread is still relatively healthy unanimously to hold the key overnight
with the interest rates in Japan lending rate at 0.5 percent on April
around 0.5% compared to 6.25% 10. Although it should be said that
in Australia, 5.25% in the U.S. and Fukui did note that spending among
3.75% in Europe (refer to economic Japanese households rose in the first
commentary). On the basis of this two months of 2007 after declining
spread, some argue that the carry every month last year, which is a key
trade will continue allowing an factor in interest rate policy.
orderly exit of Yen positions over
the coming years, should Japan So what does this mean for world
raise rates. markets? Jonathan Allum, a strategist
at broker KBC, believes the fallout
Further support is lent to is “potentially endless”. It could lead
this argument as evidenced to the serial collapse of speculative
by the quick recovery of bubbles all over the world, including
the ‘trade’ in the wake high-yielding and second-tier
of the Asian Financial currencies, trophy real estate, high-
Crisis. Whilst there was yielding bonds, art and possibly even
a short term rush to gold. This is more likely a dooms day
buy Yen and repay scenario and the more likely result
loans during this would be a gradual unwinding of
period, after the positions as Japanese interest rates
dust had settled, are normalised with those of other
many investors major economies.
rather than investing into However if the doom sayers are
speculative markets looked for more right, there could be quite a carry
stable and less volatile investments, on indeed.
at least initially.
Complying pension effectively increased the amount of
assets an individual can have whilst
The two major changes to
superannuation that will
window closing still being entitled to a pension, by
impact complying income
reducing the taper rate reducing
from $3 to $1.50 for every $1,000 streams are the abolition
Prior to the sweeping superannuation over the minimum assets threshold.
changes of last May, complying income The table below shows the impact of RBLs on 1 July and the
streams were an effective investment that this change will have. removal of the 50% assets
for many individuals that provided
a variety of benefits. These benefits
This change to the thresholds test exemption on 20
means that people who previously
included: September 2007.
were ineligible for the pension may
• Access to the higher Pension now be eligible. In addition, those
Reasonable Benefits Limit (“RBL”) that may have needed to make a
large investment into a complying
• 50% exemption on the Pension
pension may now need to reconsider
their options given the increase in
• Depending on the product, a fixed thresholds.
pension payable over a fixed period
or a person’s life expectancy. It should also be noted that it is not just
the pension income that is received
The two major changes to super- when there is a pension entitlement.
annuation that will impact complying For those who qualify for the age
income streams are the abolition of pension, they also receive a Common-
RBLs on 1 July and the removal of wealth Government Health Care
the 50% assets test exemption on 20 card which provides access to medical
September 2007. For some individuals and pharmaceutical benefits at heavily
the opportunity exists between now reduced rates. As a person gets older
and 20 September to commence a and potential medical costs increase,
complying income stream that will this can be a significant benefit.
potentially increase the level of
pension that is received. As noted above the benefits of
investing into a complying pension
However the key disadvantage of need to be weighed up against the
using a complying pension is that loss of access to capital. In recent
it removes the pensioner’s access to times, the most popular type of
their capital. The appropriateness of complying pension has been a relatively
locking up capital for the remainder new product called a Term Allocated
of a person’s life (or life expectancy) Pension, commonly known as a TAP.
needs to be carefully weighed up
against the benefits of Government A TAP differs to previous complying
pension entitlements, as once pensions in that whilst a pensioner
commenced the monies cannot does not have access to the capital
be accessed by the individual. during their lifetime, upon their demise
any remaining balance was paid out
In addition to the removal of the 50% to their dependants or estate.
assets test exemption for complying
pensions, the Government has
Minimum Maximum Maximum
(Current) (20 Sept.)
Single homeowners 161,500 334,250 507,000
Single non-homeowners 278,500 451,250 624,000
Couple homeowners 229,000 516,500 803,000
Couple non-homeowners 346,000 633,500 920,250
In addition, pension payments vary However, it is through this work that
each year depending on the balance we believe this product represents an
of the account at the beginning of excellent opportunity to invest into a
each year allowing a pensioner to unique product that has the potential
access the growth in their account to capitalise on growing demand for
balance, rather than losing it to the water and the resources that support it.
The objective of the fund is to generate
The superannuation simplification capital growth for investors through
program has made the TAPs redundant the creation of an internationally
in the long term, but between now diversified water fund. The fund
and 20 September, it could be a portfolio will include investments
useful tool to help those who want with global water fund managers
access to Government benefits to and direct investments in the
structure their personal affairs for securities of water related companies.
maximum effect. The fund’s responsible entity and
manager is MFS Aqua Managers
(wholly owned subsidiary of MFS
The MFS Water Group Limited).
Fund The MFS Water Fund will initially
invest funds with fund managers in
Our product review this quarter Europe and the USA who specialise
has a different aspect to our normal in the global water sector. The Water
reviews in that we are reviewing Fund will invest in funds managed
a product that Moore Stephens has by these fund managers and may
been involved in developing. As such, also utilise separately managed
we disclose up front that we act as accounts. MFS Aqua have identified
advisers to the Fund Manager and and conducted due diligence on
generate fees from the due diligence twelve fund managers who specialise
and taxation advice that we provide in water related assets. MFS Aqua will
to them. construct a portfolio of investments
aimed at maximising the capital return to investors while providing
diversification geographically, by industry and by investment strategy.
The MFS Water Fund is positioning itself to take advantage of the major
shifts in the perception of water. The valuation of water is creating investment
opportunities for businesses operating in the global water sector and water
markets are beginning to emerge in sophisticated investment environments.
This is leading to more market based supply and demand mechanics and
investment opportunities are growing at an unprecedented rate.
Access to managed funds specialising in water assets is generally restricted
to institutional and high net wealth investors. MFS Water Fund gives retail
investors the opportunity to invest in this new and growing sector.
Fund type Open ended.
Fund suitability Suitable for investors seeking capital growth, exposure
to water related investment, absolute returns and a
3-5 year investment horizon.
Minimum investment $10,000 and then in increments of $1,000.
Denomination Australian dollars.
Borrowing Only for hedging currency risk.
Redemptions From 31 March 2008.
Risk The fund should be considered a speculative investment
and therefore is high risk.
If you would like to attend an information session on this fund please contact
Carolyn Sottosanti on 9614-4444 or email@example.com
daniel minihan Carolyn sottosanti
B.Bus C.a. F Fin aFPa Pa to Wealth management
associate director firstname.lastname@example.org
moore stePhens ConsultinG
tara jones (melB) Pty ltd
B.com GdipFinPlan F Fin
aBn 34 006 341 386
email@example.com level 14, 607 Bourke street
melbourne viC 3000
tel: +61 3 9614 4444
Fax: +61 3 9629 5716
australian Financial services licence 236556
Principal member of the FinanCial
PlanninG assoCiation of australia.
imPortant: the information contained here in is prepared on the understanding that it neither represents nor is
intended to represent advice or that moore stephens Consulting (melb) Pty ltd, moore stephens melbourne Pty
ltd or moore stephens Charted accountants is engaged in rendering legal or professional advice. the information
is of a general nature only and has been provided without taking into account your objectives, financial situation or
needs. Because of this, we recommend you consider, with or without the assistance of a financial adviser, whether
the information is appropriate in light of your particular needs and circumstances.
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