As Britain gets out the bunting for the Diamond Jubilee celebrations, Australia is locked in a fierce debate over whether it wants to retain the Queen as its head of state.
But British fund managers show no such doubts about the attractions of buying stocks in this Old Commonwealth country. After years of avoiding shares from Down Under, many are now participating enthusiastically in Australia’s resources-led boom.
In the latest in a series of articles examining the role of politics in investment, we look at how Australia has been changing from a very Western-facing, Anglo-centric country into one where links with China and the Far East are becoming increasingly important. We also consider its attractions as a place to invest.
The China effect
Mark Dampier, of Hargreaves Lansdown, the wealth manager, says: “If you buy Australia you are buying China. Australia may have many traditional links to the UK but in business terms it is now much more closely tied to the countries of the Pacific Basin, notably China. It is China which holds the key to a lot of what is going on in Australia now.”
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Over the past decade, he says, Australia has been prospering thanks to a huge commodity boom which has largely been fuelled by China’s appetite for raw materials. China has bought up a lot of Australian assets, which has helped to underpin the Australian stock market and also helped boost the value of the Australian dollar. One unfortunate side effect of this process is that property prices have also been driven up sharply so that the housing market now looks overvalued.
But in most other respects the China connection has been positive for Australia and has played a big part in enabling it to weather the credit crunch better than most other developed economies.
The case for Australia
Although property prices — and housing debt — are uncomfortably high, Australia’s overall debt levels, including government debt, are quite low and don’t represent a heavy burden on future generations.
The country’s demographic profile also looks quite attractive, since an ageing population is not as big a problem as in many developed countries thanks to the arrival of thousands of skilled — and relatively young — immigrants.
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The total population size is tiny relative to the scale of the country and the size of its natural resources, so there is no immediate danger of the mineral or energy deposits being exhausted. Australia should, in fact, be able to continue as a major commodity exporter for many years to come. In addition to the minerals and oil already being extracted — and exported — in large quantities, Australia is set to become a big exporter of liquefied natural gas within the next couple of years.
Soo Hai Lim, manager of the Baring Australia fund, says: “Australian shares are trading on comparatively cheap valuations and offer among the highest dividend yields in the Asia-Pacific region, at an average of more than 5 per cent. Australia’s strength is in mining and resources, and a huge pipeline of projects in both mining and oil and gas suggests it will continue to be a strong exporter of natural resources. Australian stocks include many world-class companies, such as BHP and Rio Tinto, the mining giants, and Cochlear, a niche global leader in healthcare.”
Australia’s position on the edge of the Pacific Basin means that it is ideally placed to act as a channel for Western money-seeking attractive investment opportunities in the Far East. By going through Australian companies operating in Asia, investors can benefit from Western-style corporate governance while at the same time getting exposure to Asia’s high growth rate.
The drawbacks
The high level of property debt is a nagging worry, though Australia’s exposure to property is not as extreme as that of some other developed countries. The real concern is the degree to which Australia’s fortunes are tied to those of China. Rob Gleeson, of Financial Express, the fund research group, says: “While Australia has been able to rely on Chinese demand for its prosperity in the past, any slowdown in China’s growth will likely mean that Australia will suffer the same consequences from bursting property and debt bubbles that have laid low much of the northern hemisphere.”
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Meanwhile, growth in the domestic economy has been sluggish, with the service sector slowing down and the construction industry declining for 21 successive months.
Students of investment history point to a further concern: we have been through this cycle of boom and bust before. Brian Dennehy, of Fundexpert.co.uk, the investment hub, says: “In the late 1980s and 1990s there were quite a few Australian funds on offer, which were largely gold mining plays. But throughout those years the gold price kept falling from its high of [US] $850 an ounce in January 1980 until it reached a low of $252 an ounce in June 1999.
“No one was buying gold shares and the Australian funds found themselves rooted at the bottom of the performance tables for many years — a classic example of what can go wrong when a fund is too dependent on one single element, in this case the price of gold. Eventually, embarrassed fund managers either wound up the funds or folded them over into commodity funds or more general global funds.”
He adds: “I don’t think the same thing could happen in exactly the same way today because the Australian economy is more diversified, but it is a terrible warning about the dangers of over-concentration and the risks you run in a single-country fund.”
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How to invest Down Under
One of the legacies of the implosion of Australian funds in the 1990s is that managers have been reluctant to launch single-country funds covering the region ever since. One of the few on the market today is the Baring Australia fund, and even that is Dublin-listed. There are also some exchange-traded funds (ETF) covering Australia. Otherwise, investors now have to look more to funds covering the Pacific Basin to obtain their Australian exposure.
Rob Gleeson, of Financial Express, says: “A number of Asia Pacific and Far Eastern funds hold quite a large chunk of their portfolio in Australia — sometimes 20 to 30 per cent. But you have to drill down into each fund’s portfolio to find that out — and the fund managers can always reduce the size of their holdings in Australia if they want.”
Among the funds with the largest exposure to Australia are Aviva’s Asia Pacific Property fund, with 46 per cent, Standard Life’s Pacific Basin Equity Index Tracker, with 40 per cent, and CF Ruffer Baker Steel Gold fund, on 36 per cent.
Experts’ pick
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Rob Gleeson, of Financial Express, goes for Ruffer Baker Steel Gold fund and the iShares MSCI Australia Index ETF. He says: “The gold fund has a unique strategy of finding small mining companies that it thinks might make attractive targets for bigger firms, and then profiting handsomely when they get bought up by one of the giants like Rio Tinto. Australia has been a really fertile hunting ground for this approach.
“Although many funds use Australia as a means to invest in China or commodities, the MSCI index tracked by the iShares ETF covers the largest companies in Australia, representing a cross-section of everything it has to offer. It is thus better suited to people who view Australia as possessing more than just quarries.”
Tim Cockerill, of Rowan Dartington, the stockbroker, likes Newton Asian Income fund. “It has 27 per cent of the portfolio in Australia and the fund’s emphasis on income as well as growth means it is not too heavily skewed towards the resources sector, as mining stocks do not have high yields. The fund has a very good long-term track record.”
He, too, is a fan of the iShares Australia ETF. “As a pure play on Australia this is ideal as it is made up of 72 holdings, with financials as the largest sector. Annual charges are low at 0.52 per cent,” he said.