Five things to do now, amid the volatility

The economic data is suddenly going backwards and investors need to review their settings.

Here’s a list of what investors might add to their “to do” lists in these challenging times. Picture: Aaron Francis/The Australian

Until a couple of weeks ago, the combination of huge increases in government spending and central banks doing “whatever it takes” to support liquidity seemed to be reducing the depth of the economic downturn, both globally and in Australia.

High-frequency data suggested the economic tracking indexes for US and Australia had begun a modest recovery, and two months of strong growth in retail sales were encouraging.

Then the numbers of COVID-19 cases surged. The reintroduction of lockdown requirements in many US states, and the severe regulations in Victoria, have interrupted the tentative recovery in economic conditions — and are likely to lead to further big increases in budget deficits and in the stock of bonds on issue.

Still, in my view bond yields will stay quite low for another year or two, and then start moving move higher.

Here’s a list of what investors might add to their “to do” lists in these challenging times:

● Continue to keep a close watch on the statistics of COVID-19 cases, and expect markets to be nervous and jumpy until the second waves of infections abate.

● Maintain a sensible diversification in their investments, including bonds (and cash), even though interest rates are now extremely low.

● Look out for signs of a rebound in inflation, but with the expectation it’s a medium term problem, not an immediate one. And investors might start familiarising themselves with bonds that provide automatic protection against future inflation.

● Prepare for another sell-off of shares if the second waves in virus infections continue to climb. It could be a time to buy shares in companies with good prospect of growing earnings as economic conditions improve.

● Allow that today’s low bond yields will encourage financial analysts to lower also the discount rates they use when calculating current values of future cashflows.

Up to a point, that’s fair enough — and we can expect some high targets set for shares in companies like Microsoft and CSL with strong management and lots of R&D.

But beware of the limits of net present value calculations: the value of good companies doesn’t approximate infinity when bond yields and discount rates approximate zero.

Don Stammer is an adviser to Stanford Brown Financial Advisers. The views expressed are his alone.

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