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The Australian economy has experienced fire and rain in more ways than one over the past 18 months.
After plunging into its first recession in 28 years in 2019–20 as COVID-19 hit fast on the heels of bushfires, floods and drought, in 2020–21 Australia’s economy staged an emphatic V-shaped recovery.
The strength of the recovery was due in part to Australia’s success in suppressing the pandemic compared with most other developed nations and the speed and size of the financial stimulus from state and federal governments and the Reserve Bank.
But the recovery also owed much to strong Chinese demand for our iron ore and booming prices for a wide range of commodities. This, coupled with growing consumer confidence, falling unemployment, low interest rates and high levels of cash in search of a home, produced a surge in asset prices from Wall Street to the backstreets of the Australian residential property market.
What does all this add up to for local investors? The proof is in the superannuation pudding, with the median growth fund expected to show an annual return of around 18% for the 12 months to 30 June. This follows a dip into the red the previous financial year.
Indeed, Australia’s biggest super fund, AustralianSuper recently reported an annual return of 20.43% for its Balanced option, the highest in the option’s 35-year history.
As you can see from the table below, asset prices have been on a roll – with the notable exception of bonds, where prices fall as yields rise. Here’s how the year unfolded.
Table 1: Annual change in value to 30 June 2021
| Shares | |
| MSCI World Index (excl. Australia) | +37% |
| S&P 500 | +39% |
| ASX 200 | +24% |
| Bond yields | |
| US 10-year bond | +81 basis points |
| Aust 10-year bond | +61 basis points |
| Currency | |
| $A vs $US | +10% |
| Commodities | |
| Iron ore | +116% |
| Oil | +87% |
| Natural gas | +468% |
| Australian resident property | |
| CoreLogic Home Value Index | +13.5% |
Global economic recovery
Australia emerged from recession earlier and stronger than anyone expected. After negative growth of 2.4% in 2020, the Reserve Bank forecasts growth of around 4.75% in calendar 2021 falling to 3.5% in 2022.
While much of the world’s economy was harder hit by the pandemic and remains so, global growth accelerated along with the vaccine rollout in developed nations and the winding back of restrictions in time for the northern summer.
In its June report, the World Bank forecast global growth of 5.6% in calendar 2021, with growth of 6.8% in the US and 8.5% in China.
Interest rates hit rock bottom
Global efforts to support economic recovery have been anchored by historically low interest rates. While low rates are almost certain to be with us for at least another year, the talk now is about whether the Reserve Bank will budge from its commitment not to raise rates until 2024.
In Australia, the cash rate sunk to a record low of 0.1% in November 2020 where it remains. The Reserve Bank also kept its target rate of 0.1% for three-year government bonds, but long bonds began to break free of their 2020 lows on concerns that inflationary pressures were building.
Yields on the Australian Government ten-year bond lifted from a low of 0.75% in November 2020 to a high of 1.85% before ending the financial year at 1.48%.
Chart 1: Australian government bond yields (3 and 10 yr)
Source: Yield Report
Despite the Reserve Bank’s insistence that it wouldn’t start lifting the cash rate until 2024 at the earliest, some economists suggest the first increase could come as early as November 2022. Now the central bank itself is softening its rhetoric in the face of a rapidly expanding economy.
In a rare press conference on 6 July 2021, Reserve Bank Governor Philip Lowe said that while the Bank’s still believes “the condition for an increase in the cash rate will not be met until 2024… There are alternative plausible scenarios as well”. That’s bank-speak for rates could rise sooner than expected.
Before it starts lifting rates, the Reserve Bank wants to see inflation within its 2–3% target (currently 1.1%), unemployment close to 4% (currently 5.1%) and wages growing at an annual rate of 3–3.5% (currently 1.5%). Clearly, there is still a way to go.
However, the Reserve Bank is already paring back its financial supports and will start decreasing its bond purchases from September.
In the meantime, retirees and anyone reliant on investment income are being forced to look further afield for a decent yield.
The best bank term deposit rates are currently below 1% for terms of less than two years. With inflation at 1.1% anyone with savings in the bank is going backwards, so it’s not surprising investors have been flocking to shares for their dividend income as well as capital growth.
Aussie dollar
The Aussie dollar hitched a ride on the back of rising commodity prices and Australia’s positive economic performance but fell from its highs against the US dollar as the US economic recovery accelerated. The Aussie dollar rose 10% against the greenback, starting the year at around US69c and finishing near US75c, after hitting a high of just under US80c in February this year. The Aussie was also up against currencies including the Japanese yen and the euro but fell against others such as the British pound and the Canadian dollar.
Chart 2: Australia dollar vs US dollar
Source: WM/Reuters
Commodity Prices
Soaring commodity prices put the fuel in Australia’s economic tank in the year to 30 June, with the Reserve Bank commodity index up 49% in US dollar terms. From Australia’s point of view, the most significant gains were iron ore (up 116%), natural gas (up 468%), thermal coal (up 158%), crude oil (up 87%) and coking coal (up 79%).
Graph 3: RBA index of commodity prices
SDR, 2019–20 average = 100
Source: RBA
In an astounding versal of fortunes, the Australia All Ordinaries Index soared 26.4% in the year to June 30 – its biggest gain in 34 years – while the ASX 200 Index jumped 24%. That took the ASX 200’s gains to 60% since the lows of March 2020 when COVID hit global equities.
The total return on shares (including dividends) swelled by 30.2% in 2020–21, despite dividend cuts by some companies that reduced total dividend payments to their lowest level since 2014.
Graph 4: All ordinaries accumulation index (total returns)
Sources: RBA; Refinitiv
The four big banks and the big iron ore miners accounted for more than half the gains, buoyed by strong economic recovery locally and in China. China’s demand for steel pushed iron ore prices to a record high earlier this year.
The sharemarket recovery also extended to popular stocks including Wesfarmers (owner of Bunnings), Woolworths and Telstra as Australians spent their time in lockdown doing more home cooking, DIY projects and streaming.
Some of the best sharemarket returns came from overseas, with the US S&P500 up 39% and the high-tech Nasdaq Index (home to Facebook, Google, Netflix and Amazon) up 44%. The Japanese market jumped 29%, German shares were up 26% and even the UK market managed a 14% rise despite the toll taken by the pandemic.
Residential property boom
The residential property market also defied expectations. National housing prices rose 13.5% over the 12 months to 30 June according to the CoreLogic Home Value Index, while the total return (including rental income) was a healthy 17.3%.
This was the highest annual return since 2004 during the housing boom of the early 2000s. This time, prices have been driven up by record low interest rates, low housing supply, elevated cash levels accumulated during the COVID restrictions and rising consumer confidence as the local economy bounced back.
As you can see in the table below, Darwin, Hobart and Canberra were the standout capital city markets, followed closely but regional markets that benefitted from an exodus from the cities during COVID. Melbourne, which suffered most from repeated lockdowns, dragged the chain but still managed a total return in double digits.
Table 2: Australian residential housing values as at 30 June 30 2021
Index results as at 30 June 30 2021: Change in dwelling values
| Month | Quarter | Annual | Total return | Median value | |
|---|---|---|---|---|---|
| Sydney | 2.6% | 8.2% | 15.0% | 17.8% | $994,298 |
| Melbourne | 1.5% | 4.6% | 7.7% | 10.7% | $753,100 |
| Brisbane | 1.9% | 5.7% | 13.2% | 17.9% | $586,142 |
| Adelaide | 1.6% | 5.6% | 13.9% | 18.5% | $508,712 |
| Perth | 0.2% | 2.1% | 9.8% | 14.7% | $526,166 |
| Hobart | 3.0% | 7.4% | 19.6% | 25.3% | $607,960 |
| Darwin | 0.8% | 6.3% | 21.0% | 27.6% | $475,083 |
| Canberra | 2.3% | 6.1% | 18.1% | 22.5% | $770,873 |
| Combined capitals | 1.9% | 6.2% | 12.4% | 15.9% | $727,427 |
| Combined regional | 2.0% | 6.0% | 17.7% | 23.1% | $478,212 |
| National | 1.9% | 6.1% | 13.5% | 17.3% | $645,454 |
Source: CoreLogic Home Value Index
Dr Lowe recently revealed that the Reserve Bank is considering options to take the heat out of the housing market. Limits on loan to valuation and debt to income ratios are on the table, as well as interest rate buffers where borrowers are assessed against higher repayment levels.
Already, some banks have moved to increase their minimum fixed-term mortgage rates in a sign that the interest rate cycle has bottomed.
Looking ahead
As the new financial year gets underway, the underlying economic health of the nation is clearly on the mend despite continuing coronavirus restrictions and delays in the national vaccine rollout.
Reserve Bank governor Lowe said on 6 July that the economy had not just recovered faster than expected from the coronavirus recession, but that it has shifted into an expansion phase.
That’s good news for investors, but commentators warn not to expect last year’s double digit returns for growth assets and growth-oriented superannuation investment options to continue. Financial markets tend to anticipate events, so they have already priced in improved economic growth, rising interest rates and inflation.
On releasing AustralianSuper’s annual returns, chief investment officer Mark Delaney said he expects pent-up demand along with government stimulus programs and low interest rates to continue to support economic recovery and improve returns for growth assets.
“We believe that most members are better off when they stay invested in a diversified portfolio throughout the market ups and downs,” said Delaney.
Once again, 2020–21 has shown that even though financial markets can be volatile and unpredictable, the rules of investing remain the same. Stay diversified and stay the course. The proof is in the super pudding.
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