The RBA is between a rock and a hard place

Relative to history, current levels would be considered strong. But the cycle is what matters, and loans have overshot to the downside.
David Berthon-Jones

Aequitas Investment Partners

The credit cycle is all that matters. Shown below is today's housing finance data, plotted neatly by value.

The graph below is by both value and number. We care about both. The economy lives or dies in nominal terms (nominal dollars are what you get paid in, and in turn, what you pay others with), but we do want to see what's happening with volumes, which are "real" indicators of how many people are doing what.

To avoid saying the worn out cliché of "this doesn't end well", we'll go with another. "The chickens are coming home to roost", meaning massive demand predicated on a favourable rates environment enduring forever is swiftly evaporating.

Because that second series is the original, and there's enormous volatility in both the underlying trajectory of credit demand given mortgage rate repricing, as well as the normal impacts of what Dec-Jan do for really any time series, we'll just go with "overshoot to downside likely".

But it is really, really hard to believe that this doesn't or won't have meaningful negative macroeconomic ramifications.

And we are set to hike the rates a whole bunch of times more.

The RBA is between a rock and a hard place.

From an asset allocation perspective, we are underweight Australian shares, and within Australian equities, we are positioned in quality defensives.

If we are wrong, and the economy muddles through, well, Aussie shares will probably do quite well, and perhaps better than our overweights to international equity (where we see the risks and rewards as much better balanced). But it would hardly be disastrous. 

However, if the RBA tightening into an already underway downturn in credit really is a meaningful harbinger for a much worse outcome, then we will be pleased with our efforts to diversify away from the local market.

At the stock level, if we are wrong, and the economy muddles through, well, our defensive equities selection within Australian shares (think healthcare, telecos, to a lesser degree some of the insurance companies) will probably underperform the pointier parts of the market, like domestic cyclicals (think builders, materials, advertisers, retailers, consumer discretionary, the 2nd tier banks), and although we think our defensives will do fine in an absolute sense, they'd clearly lag behind the riskier names if the risks don't actually materialise. 

Still, our punchline remains: If it really is a meaningful harbinger for a much worse outcome, then we will be pleased with our efforts to diversify into lower beta, defensive, higher quality names.

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This document has been prepared by Aequitas Investment Partners ABN 92 644 165 266 (“Aequitas”, “our”, “we”), a Corporate Authorised Representative (no. 1284389) of C2 Financial Services, (Australian Financial Services Licensee no. 502171), and is for distribution within Australia to wholesale clients and financial advisers only. This document is based on information available at the time of publishing, information which we believe is correct and any opinions, conclusions or forecasts are reasonably held or made as at the time of its compilation, but no warranty is made as to its accuracy, reliability or completeness. To the extent permitted by law, neither Aequitas nor any of its affiliates accept liability to any person for loss or damage arising from the use of the information herein. Please note that past performance is not a reliable indicator of future performance. General Advice Warning: This document has been prepared without taking into account your objectives, financial situation or needs, and therefore you should consider its appropriateness, having regard to your objectives, financial situation and needs. Before making any decision about whether to acquire a financial product, you should obtain and read the relevant Product Disclosure Statement (PDS) or Investor Directed Portfolio Service Guide (IDPS Guide) and consider talking to a financial adviser. Taxation warning: Any taxation considerations are general and based on present taxation laws and may be subject to change. Aequitas is not a registered tax (financial) adviser under the Tax Agent Services Act 2009 and investors should seek tax advice from a registered tax agent or a registered tax (financial) adviser if they intend to rely on this information to satisfy the liabilities or obligations or claim entitlements that arise, or could arise, under a taxation law.

David Berthon-Jones
Co-Chief Investment Officer
Aequitas Investment Partners

David is Co-CIO of Aequitas Investment Partners with Dr Rowan Stewart. David and Rowan are responsible for investment strategy and the delivery of reliable, cost-effective multi-asset, and direct equity portfolio solutions to Advisers, Dealer...

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