Listed Investment Vehicles such as Listed Investment Companies and Trusts were under much scrutiny prior to the eruption of the current crisis to engulf markets. Casting our minds back only two months, the issue dominating this corner of the investment world revolved around stamping fees. While Treasury has been tasked to formulate a response, it arguably has more pressing matters such as devising strategies to keep the Australian economy from imploding from the COVID-19 shutdown and direction may be some time coming.

The vehicles themselves have endured a torrid time during the market turmoil with planned capital raisings cancelled and the usual performance issues that inevitably crop up. The correction has, however, exposed other fundamental issues with LIVs ranging from underlying portfolio valuations to how these products themselves should be used in a client context.

From frying pan to the fire

Financial markets tend to resolve issues by themselves—for good or for bad. Stamping fees are otherwise known as commissions associated with a capital raising for a LIV. With the ASX having cratered 36% in short order (Feb. 20 to March 23), and investors nursing losses it seems likely that interest in new product would be severely curtailed for the medium term at least.

This is probably even more so for the yield orientated strategies which had been crowding the ASX boards of late. The thirst for yield, and the hitherto relative calmness in markets, had emboldened investors to reach out across the fixed income risk curve into highly sophisticated territory like private debt. While uncertainty surrounding stamping fees may have given issuers of new products cold feet, the ensuing COVID-19 induced market correction has more than likely forced a re-evaluation of timelines—from 2021 if at all.

These assets had been the preserve of institutional investors given the underlying risks and the need to have a genuine long-term view in order to prosper. The LIV closed-end structures are well suited to these types of assets protecting value from any investor panic and forced redemptions. However, while the assets themselves are sheltered (setting aside any potential issues relating to their prospective quality and resilience) the LIV trades daily on the market and concerns/reduced conviction will be impounded. There is always the ever-present issue of misuse although not dissimilar to illiquid or volatile micro and small cap equities.

Lonsec researches 25 LIVs across Australian Equities, Global Equities, Fixed Income, Alternatives and Infrastructure (see Appendix 1 for the full list). All vehicles experienced steep drawdowns in traded value in excess of 10% during the window of February 20 to March 23 as seen in the following chart.

Source: Lonsec Research, Iress & Bloomberg | Stock Codes = See Appendix 1 | AEQ = S&P/ASX 200 TR Index AUD; GEQ = MSCI World ex Australia NR Index AUD; EMEQ = MSCI Emerging Markets NR Index AUD; AFI = Bloomberg AusBond Composite 0+ Year Index AUD; GHY = Bloomberg Barclays US Corporate High Yield (Unhedged)


  • Most LIV prices have fallen in line with the broader Australian share market rather than proxies which more closely match the underlying assets within their portfolios. For instance, the Magellan Global Trust (MGG) price fell 38% while the benchmark global equities index only fell 23%—this represents a significant 15 percentage point difference. A common criticism of listed infrastructure and property is that these assets will tend to trade more like stocks (Australian stocks at that) and this chart suggests that this criticism may be extended to non-AEQ LIVs. This can have serious consequences for client portfolio management and rebalancing decisions.
  • Nine of the 25 LIVs fell less than the Australian market’s 36% of which six were Australian Equities focused vehicles.
  • Platinum Asia Investments Limited (PAI) stands out with only a -16% fall. This would seem counterintuitive given its heavy China focus (net 42.9% as at 29 Feb. 2020 to China and related) and a healthy dollop of Korean exposure (net 9.4% as at 29 Feb. 2020). However, China’s stocks have so far proven resilient to the economic fallout with the CSI300 down only 12% for the same period (following an earlier period of volatility in January/February 2020).
  • The only other LIV to have experienced such a cushioned fall (-18%) was Global Value Fund Limited (GVF). GVF uses a sophisticated strategy investing across a range of assets (including LIVs) as well as derivatives.
  • The most eyebrow raising moves have been seen with the Fixed Income LIVs although this would seem reasonable after digging a bit deeper. Fixed Income more generally has a safe haven status during period of stress albeit with well understood limitations. Sovereign bonds tend to be the safest (hence their general risk-free asset status) followed by highly rated corporate bonds. All the Fixed Income products under coverage (including PGG) invest across a range of riskier debt with mixed liquidity and quality in order to generate their high yields.
  • NB Global Corporate Income Trust (NBI) has the unenviable title of the worst price performer (-54%) of all listed products researched by Lonsec. Partners Group Global Income Fund (PGG) takes third spot (-47%) behind Forager Australian Shares Fund (-53%). NBI invests in global high yield bonds (GHY) which have been at the centre of concerns during this current crisis. GHY is also be considered as relatively more liquid than some of the other higher risk Fixed Income strategies in this space (e.g. private debt). NBI was also forced to cancel a c. A$340mn capital raising as a result of the market volatility. PE1 (withdrew ahead of close) and MXT (c. A$344mn) also cancelled capital raisings. Australian players MXT (-37%) and GCI (-36%) cannot escape the ignominy either.
  • The investors need to be mindful of however is that unlike equities, bonds/loans (in Fixed Income products) have a finite period and strategies should receive a return of their capital barring any significant wave of defaults (then the recovery rate becomes another factor, generally higher than equities). Moreover, while traded prices may fluctuate as investors react to news affecting the underlying investments, the closed-end nature of these vehicles supports the integrity of the investment vehicle as these LIVs are immune from redemption pressure. Then again, they may simply trade at deep discounts to NTA for an extended period.

Stale NTAs Blight Sector

Listed markets are great for price transparency and particularly well suited to forming views on industrial companies. Maybe less so when it comes to LIVs judging by the propensity of these vehicles to trade away from their NTA—sometimes significantly.

LIVs may have actively quoted prices but the frequency with which the value of their underlying investments is published can vary widely from daily, weekly, monthly or potentially longer. Clearly increased costs could be a limiting factor to increasing the frequency of audited values but producing daily estimates is not expected to be a material cost especially as this information should already be readily available within portfolio management systems.

Sadly, most Australian Equities LIVs report their NTA on a monthly basis and this stands in stark contrast to their Global Equities peers updating the market weekly. ARG has responded to the recent market turmoil by publishing weekly estimates. CIE, AMH, AFI, MIR and DJW have provided intra-month March updates. FOR and PIC meanwhile have been providing daily estimates for a long time and this should conceivably be the default model for all equities based LIVs.

Equity-based strategies are quite straightforward and typically uncomplicated with readily available asset prices. NTA updates on a monthly basis should no longer be accepted as general practice and these vehicles should improve their communications to investors. That vehicles with arguably less price transparent debt assets can confidently provide daily NTA estimates should give most of their peers cause for reflection on their own practices.

Source: Lonsec Research, Iress & Bloomberg | NTA = Pre-Tax NTA; Period = End of Month

The above chart highlights the premiums / discounts as at the end of January and February 2020. Clearly these values are very dated given the widespread price action post the 20th of February but nonetheless provide a useful discussion point. For instance, given the distress which has befallen credit markets globally and the significant price corrections experienced by the vehicles themselves, the very narrow discounts are expected to have noticeably widened. Using NBI as an example, this was trading at a 16% discount based on the March 26 NTA and March 27 closing price.

NBI observation also provides another lesson. Complicated strategies, or those with which the market has less familiarity or comfort, may nevertheless trade away materially from the underlying portfolio value. This is irrespective of the frequency with which NTA updates are provided. Moreover, not all assets can be valued more frequently either (e.g. direct property). Traded prices reflect future expectations and factors which impinge on an investor’s ability to derive these can weigh on market performance. In times of crisis, investors tend to flock not only to safety but simplicity too.


The treatment of stamping fees had been consuming the industry for many months before the Treasurer announced a review into the issue in January. This was before the world changed with COVID-19 and exposing some other deep-seated issues within the industry. For instance, why should a portfolio of liquid daily traded securities only provide NTA updates on a monthly basis? By comparison managed funds can strike prices daily on similar pools of assets. Moreover, debt focused LIVs are already confidently providing daily NTA estimates. Stale NTAs are expected to have a material impact on investor psychology and into the trading performance of these vehicles.

The other more pernicious issue relates to portfolio construction. A client portfolio built of non-equities based LIVs is likely to miss out on immediate and normally expected correlation benefits as many Lonsec researched ASX-listed LIVs traded in-line with the ASX and not with their underlying assets. Perhaps this issue should get at least equal attention than whether stamping fees should persist.

Our Head of Listed Equities, Peter Green, takes a look at the impact of COVID-19 on equity markets, and highlights some of the companies that have benefited from the COVID-19 outbreak, as well as the ones that have been most adversely affected.

Copyright © 2020 Lonsec Research Pty Ltd ABN 11 151 658 561 AFSL 421 445 (Lonsec). Lonsec receives fees from fund managers and financial product issuers for rating financial products using objective criteria and for services including research subscriptions. Lonsec’s fee and analyst remuneration are not linked to the rating outcome. Lonsec, its representatives and their associates may hold the financial product(s) rated. Warning: Past performance is not a reliable indicator of future performance. Any advice is General Advice based on the investment merits of the financial product(s) alone, without considering the objectives, financial situation and needs of any person. It is not a recommendation to purchase, redeem or sell the relevant financial product(s). Before making a decision read the PDS and consider your financial circumstances or seek personal advice. Disclaimer: Except for ratings, Lonsec gives no warranty of accuracy or completeness of information in this document, which is compiled from information from public and third-party sources. Opinions and ratings are reasonably held by Lonsec at compilation. Lonsec assumes no obligation to update this document after publication. Except for liability which can’t be excluded, Lonsec, its directors, officers, employees and agents disclaim all liability for any error, inaccuracy, misstatement or omission, or any loss suffered through relying on the document or any information. All rights reserved. This report may also contain third party material that is subject to copyright. To the extent that copyright subsists in a third party it remains with the original owner and permission may be required to reuse the material. Any unauthorised reproduction of this information is prohibited.

In the wake of the large falls in listed market valuations for stocks, including listed property and infrastructure stocks which to date have seen pricing falls close to the same as broader equity markets, inevitably the disconnect with unlisted valuations rears its head.

Even prior to the recent market falls, private property and infrastructure asset valuations were at a premium to listed valuations. Now that listed market values have plummeted, pressure has mounted on Investment Managers and Super Funds to update values on the unlisted assets more regularly than the usual quarterly cycle (resulting in annual external valuations for most assets).

Direct Property

In Australia, AMP Capital is leading the way with valuers now being asked to revalue property assets in their flagship AMP Capital Shopping Centre Fund and AMP Capital Wholesale Office Fund on a monthly (desk-top) basis. Usually, non-development assets over $100m are valued quarterly and assets under $100m are valued six monthly. The valuations conducted in early February and early March 2020 will be reflected in unit prices as at 31 March 2020. The desk-top valuations on an on-going basis will be reflected from 1 April 2020.

As an indication, expectations for capitalisation rates were for a slight tightening prior to the equity market downturn. Now it is a softening in rates of 0.2% (for industrial/office) and +0.8% (retail assets). This translates to a 5% fall for office/industrial values and 15% for retail, plus estimates for rental assumptions within valuations to reduce 10%. The reality in retail property may be somewhat worse, given that trading for some retailers has completely halted.

Direct Infrastructure

AMP Capital has external valuations on its infrastructure investments every six months, with additional valuations if there are circumstances that will have a material implication for the value of an unlisted asset. Given current market conditions, the AMP Capital valuation committee has adopted new valuations for three assets:

  • Australian Pacific Airports Corporation (-4.2%)
  • Port Hedland International Airport (-7.5%)
  • ANU Student Housing portfolio (-4.6%)

Given the significant halt to air traffic/passenger activity (as well as student numbers) and the unknown duration of these disruptions, further revaluations downwards would be likely to these and other AMP Capital interests (eg: interests in UK’s Luton Airport; Leeds and Bradford Airport; Newcastle Airport and US based Its ConGlobal freight train rental). Other assets may be less affected (eg: Angel Trains has long-term leases backed by the UK government).

The initial revaluations flows through to products like AMP Core Infrastructure Fund to a lesser extent (-0.8% change in unit price) given the wide diversification of its portfolio of unlisted assets (airport assets 15% of total; student housing 4%).

While the impact on unlisted assets is to date muted, the more regular revaluations will see prices of assets/funds adjust more quickly and traditional volatility measures increase.

However, the impact from the reduction in listed property and infrastructure assets has been more rapid and severe. Distributions from these sources are expected to be cut-back, but it will affect different sectors to varying degrees (communication assets and utilities holding up; discretionary retail property; user pays infrastructure seeing volume falls of 35% in Australia to 70% Europe).

Lonsec has partnered with BT Financial Group to make its suite of Listed and Retirement Managed Portfolios available on the BT Panorama platform.

BT Panorama users now have access to all three of Lonsec’s Managed Portfolios, with the Multi-Asset Managed Portfolios already available on the platform.

“We’re very pleased to partner with BT to enable their users to leverage Lonsec’s investment knowledge and resources by utilising our full suite of Managed Portfolios,” said Lonsec CIO Lukasz de Pourbaix.

“This has been the most challenging market we’ve seen in a generation. For financial advisers and their clients, it really emphasises the need for professionally managed investment solutions that can manage risks and take advantage of opportunities as they arise.”

Lonsec’s full suite of Managed Portfolios are also available on the Netwealth, HUB24 and Macquarie platforms. Lonsec’s Listed Managed Portfolios are available on Praemium’s platform, along with Lonsec’s Core and Income Separately Managed Accounts (SMAs).

Lonsec’s portfolios harness the depth and breadth of Australia’s leading research house, incorporating dynamic asset allocation combined with an active approach to investment selection. They are also underpinned by Lonsec’s minimum quality criteria, which selects from a pool of funds rated ‘Recommended’ or higher by Lonsec’s investment research team.

Lonsec’s Listed Managed Portfolios provide investors with capital growth and income by investing in exchange-traded securities and individual stocks across a range of asset classes. Lonsec’s Retirement Managed Portfolios are objectives-based and focused on delivering an attractive and sustainable level of income.

Lonsec’s Multi-Asset portfolios are designed for investors seeking a diversified portfolio aimed at generating growth. They invest across a diversified range of Australian equities, global equities, property, infrastructure, fixed interest, and alternatives.

Release ends

Lonsec’s Current Positioning

  • Slight underweight to risk assets, in particular Australian and Global equities, with a view to adding back to risk assets as valuation opportunities arise.
  • Slight overweight to real assets and alternatives as sources of diversification.
  • Defensive bond positioning with limited exposure to stressed parts of the high yield market.
  • Overweight cash

Portfolio Performance

  • With the heavy sell-off across most asset classes so far in March, absolute returns for multi-asset investors will no doubt be disappointing come month end. Despite that, our process has worked as expected with our portfolios outperforming their respective benchmarks month to date. Investor capital has been protected through both our dynamic asset allocation and manager selection processes.
  • From a DAA perspective, our underweight positions in both domestic and global equities Manager selection are adding the most value month to date. Our unhedged position in global equities has also helped cushion losses with the falling AUD offsetting some of the negative returns from falling global equity markets.
  • Our overweight position in real assets (REITs and global listed infrastructure) has detracted some value however, with even the most defensive parts of the market not being immune to the indiscriminate selling we have seen.
  • Manager selection has contributed strongly to performance month to date. The risk control elements within our portfolios are providing good downside protection, namely Antipodes Global Fund and AB Managed Volatility Equities Fund.
  • Within fixed income, our preference for defensive fixed income strategies has also been beneficial, helping us avoid the most stressed parts of the high yield market. Pendal Fixed Income has been a stand-out performer having been defensively positioned for some time.
  • Within alternatives, our decision earlier in the month to re-align our hedges by reducing our exposure to global macro and alternative risk premia funds in favour of gold added good value. Gold is up 11% since we entered the position. Alternative risk premia as a strategy has continued to disappoint with correlations unexpectedly rising between the underlying strategies


  • Our DAA models are now showing value opportunities emerging across a number of asset classes. We are looking to add back to risk assets as opportunities arise. As a first step we have rebalanced our portfolios back to our target weights.
  • We expect to continue to see a tug-of-war between what will be excruciating macro data versus increasingly aggressive policy stimulus. While there remains a significant degree of uncertainty over the severity and duration of the global COVID-19 outbreak, volatility in markets will remain.
  • Our focus is on remaining diversified and liquid. Pockets of risk and opportunity are emerging, and this is really a time where being active across all stages of the investment process is advantageous. Investing in high quality managers who have the ability to assess the quality of the balance sheets of the underlying companies to avoid risk becomes increasingly important as we move into a period where bankruptcies and default rates are likely to rise.

With Lonsec now holding more frequent Asset Allocation Investment Committee meetings, CIO Lukasz de Pourbaix provides an update from his virtual office at home on the outcome of Lonsec’s out-of-cycle meeting held this week.

Whilst Lonsec’s overall asset allocation positioning has been the same for some time, the committee members decided this week that this defensive position should remain unchanged for now, with slight underweight exposure to equities and overweight exposures to real assets and alternatives. The investment team are meticulously looking at the three key metrics Lonsec uses to assess asset allocation – valuations, business cycle and sentiment & momentum – and are looking for opportunities to take a more positive position to risk assets.

Given the current extreme market movements, the investment team have this week rebalanced the portfolios to the target weights as a prudent way to manage our portfolios’ exposure.

Lonsec’s next committee meeting is scheduled to be held in two weeks, however we are assessing our positions daily and will continue to provide our advisers with updates as the COVID-19 situation continues to evolve.

This information is provided by Lonsec Investment Solutions as a corporate authorised representative of Lonsec Research Pty Ltd who hold an AFSL number 421445. This is general advice, which doesn’t consider your personal circumstances. Consider these and always read the product disclosure statement or seek professional advice prior to making any decision about a financial product. You can access a copy of our financial services guide at

This video is provided by Lonsec Investment Solutions Pty Ltd ACN 608 837 583, a Corporate Authorised Representative (CAR 1236821) (LIS) of Lonsec Research Pty Ltd ABN 11 151 658 561 AFSL 421 445 (Lonsec Research). LIS creates the model portfolios it distributes using the investment research provided by Lonsec Research but LIS has not had any involvement in the investment research process for Lonsec Research. LIS and Lonsec Research are owned by Lonsec Holdings Pty Ltd ACN 151 235 406.

Past performance is not a reliable indicator of future performance. This is general advice, which doesn’t consider your personal circumstances. Consider these and always read the product disclosure statement or seek professional advice prior to making any decision about a financial product. While care has been taken to prepare the content of this video, LIS makes no representation or warranty to the accuracy or completeness of the information presented, which is drawn from public information not verified by LIS. The information contained in this video is current as at the date of publication.

Copyright © 2020 Lonsec Investment Solutions Pty Ltd ACN 608 837 583

The listed income universe has not been immune to the recent market volatility that has engulfed global financial markets since the outbreak of the COVID-19 pandemic. Listed income securities covered by Lonsec have fallen 19% since early February 2020, giving investors very few places to hide. As the current market has made all too clear, hybrids are no guarantee of safety during a heavy market sell-off.

The price effect has been most severe for longer duration securities: those with more than five years to call have fallen around 25%, compared to 14% for those with less than two years to call.

Average price fall in Lonsec’s listed income universe

Source: Lonsec, Refinitiv

There have been three main drivers of this sharp fall in prices: the global rise in spreads, a lack of liquidity, and elevated risk of balance sheet stress for issuers.

The credit spreads of Listed Income securities have jumped since the pandemic was declared. As an example, looking at major bank AT1 securities with approximately five years to maturity, the average credit spread has widened from 275 bps to 783 bps.

This widening of credit spreads has not been confined to the Australian Listed Income market. The option-adjusted spreads of US Investment Grade and High Yield spreads, for instance, have jumped 334 bps and 652 bps respectively. The lift in credit spreads more broadly highlights the risk-off nature of the current market, with cash seen as the asset of choice and investors also concerned about rising default rates.

Hybrid trading margin versus Bank Bill Swap Rate

Source: Lonsec, Refinitiv

Further, the lack of liquidity in the secondary market has also exacerbated recent moves, with issue sizes for Listed Income securities ranging from as low as $268 million for AMP Capital Notes (AMPPA) to $3 billion for Commonwealth Bank (CBAPD).

While this may not appear small in comparison to the market capitalisation of some constituents in the ASX 200, the average trading volume is considerably less. For example, the historical weekly average trading volume for CBAPD is $10.3 million, and there are a number of smaller issues with associated poorer liquidity. This has increased to $17.3 million over the low level of turnover compared to the issue size of $3 billion, highlighting the impact of low liquidity on the market price movements of these securities over the short term. This is not unexpected, with investors in the current market seeking a much larger illiquidity premium to buy smaller hybrid issues.

The volatility inherent in the Listed Income universe at the moment is a reminder to investors of the equity-like characteristics of these instruments. When the market sells off, default risk and liquidity risk become more prevalent. It’s another cautionary tale during this period of market stress.

Banks face higher risk, but the probability of forced conversions remains low

Concerns about rising impairments for the big four banks has resulted in sharp share price declines in the sector, with share prices of the big four banks declining by around 36-48% since the start of the pandemic.

Given the perpetual nature of the AT1 securities and potential conversion triggers embedded in the structure of these issues, it is important to revisit the scenarios in which these Basel III compliant AT1 securities could convert into equity.

There are 3 possible scenarios in which conversion could occur:

  1. A common equity trigger event: Common Equity Tier 1 (CET1) capital is comprised mainly of directly issued qualifying ordinary shares, retained earnings, and accumulated other comprehensive income, which is adjusted based on regulatory requirements. A breach and conversion of listed income securities into common equity occurs when the risk-weighted assets of the issuer are equal to or less than 5.125% of CET1 capital.
  2. A non-viability event: This occurs when APRA declares the bank non-viable or considers that the bank would become non-viable without a public sector injection of capital.
  3. Mandatory conversion: If the securities are not redeemed at the first call date, they are left on the market for two additional years

It’s important to note that in the event of a conversion, holders will receive approximately $100 worth of ordinary shares per security, unless the issuer’s underlying shares price falls below a certain pre-determined level at which point a capital loss is likely to be incurred upon conversion. The price level is usually set at 20% of the issue date VWAP for each security.

The below table outlines the current CET1 capital levels of the major banks and the capital buffer above the conversion condition. Thanks to APRA’s “unquestionably strong” CET1 requirement of 10.5%, Australian banks are well capitalised and would need to experience a significant rise in bad debts before a conversion trigger is enforced. As at 31 December 2019, the major banks had reported capital buffers in the range of $22-30 billion in excess of the minimum capital requirements.

Regulatory Capital ANZ CBA NAB WBC
Common Equity Tier 1 (bn) 46.4 52.4 44 47.8
CET1 ratio 10.9% 11.7% 10.6% 10.8%
Common Equity Trigger buffer (bn) 24.6 29.4 22.7 25.1

Source: Company data. As at 31 December 2019

The volatility inherent in the listed income universe at the moment is a reminder to investors of the equity-like characteristics of these instruments. While the current volatility in security prices would be unsettling to investors, Lonsec believes that the risk of forced conversions into equity remains a very low probability event for the AT1 securities issued by the major banks. Lonsec continues to recommend a ‘hold-to-maturity’ approach for these securities. However, we also urge investors not to allocate to hybrid securities as part of their defensive bucket in their asset allocations.

If you thought the coronavirus put an end to geopolitical maneuvering, you probably haven’t checked in on the oil market.

The WTI spot price has fallen from its most recent peak of around US$74 per barrel in late 2018 to around $32 as at the end of last week. The price was around $52 at the start of February, reminding us of the astonishing pace at which oil prices can move (especially on the downside).

The coronavirus has come along as a negative demand-driven catalyst to enforce this via sharply reduced prices, at least for the short term.

WTO crude oil spot price (US$)

Source: Bloomberg

With annual global supply and demand of around 99.5 million barrels of oil per day (MMBOPD), the movement of just 2 MMBOPD on either side, from historical observation, can have dramatic effects on the spot price. Some analysts are forecasting a 4 MMBOPD drop in demand in the February to April period – and potentially longer – due to the coronavirus and associated economic fallout.

OPEC have proposed an additional 1.5 MMBOPD cut if Russia joins in, but so far Russia has not agreed, in part causing a large drop in oil prices and leaving the market to ponder if the loose relationship between Russia and OPEC is over. There is an existing 2.1 MMBOPD cut to official supply levels already in place for OPEC+, which consists of the 14 OPEC members plus 10 non-OPEC producers (the so-called Vienna group led by Russia).

As the world’s attention is captured by the coronavirus, a repeat of 2015 is taking place in the background. On the back of the high oil prices that prevailed from 2010 to 2014, US shale producers increased their production to record levels, contributing to overall US oil output of 9.6 MMBOPD – up from approximately 5 million in 2009 – causing OPEC market share to fall from 34% to 31%.

US oil production (million barrels per day)

Source: Lonsec

When that level of supply started to weigh on inventories, prices started to fall. Previously, OPEC has stepped in to cut their output and stabilise prices, but this time it refused, arguing it was the US producers that caused the excess supply problem and they weren’t going to cut back voluntarily.

Lessons from 2015

This inaction from OPEC had a severe impact on Australian produces like Santos (STO) and Origin Energy (ORG), which had amassed large amounts of debt after investing in LNG plants, and were then forced to embark on dilutionary equity raisings and dividend cuts. BHP wrote off billions of dollars from its misguided acquisition of shale assets in 2012, back when oil prices were high, and only Beach Energy (BPT) and Woodside Petroleum (WPL) were able to take advantage of the situation and buy up assets at low values. Of course, WPL didn’t quite pull this off in the end and were forced to write down their Kitimat LNG acquisition.

As oil prices fell sharply from late 2014 and 2015, some US shale producers became uneconomic and exploration rig counts declined, leading to US production falling back to a low of 8.5 MMBOPD in September 2016. The cycle repeated itself with oil prices rising in response to this decline in output, combined with ongoing modest but positive global growth thanks to the Chinese economy.

As oil prices began their march back up to US $70 per barrel in 2018, US shale producers were once again encouraged to increase production, this time at an enforced cost base below that of the previous cycle. With the added support of a pro-business government, output rose to 13.1 MMBOPD by February 2020.

This time, however, Russia has had enough. After making some production cuts last year as part of the OPEC+ initiative, further cuts hand US producers an undeserved and unnecessary advantage. After Russia’s walkout, markets believe we could be entering a period of sustained low and volatile oil prices, as the world waits for US shale producers to be forced to cut back production once again.

Lonsec’s view

Lonsec has generally taken a cautious view on holding energy stocks in our model portfolios, partly due to the risks of the events described above, which tend to come in all-too-regular cycles. We avoided the trap in 2015 (although others were not so lucky) and have maintained a healthy degree of caution since.

Unless OPEC and Russia can come to some sort of agreement, oil markets are set for further pain. Given the magnitude of the price falls, opportunities may present themselves for those seeking to take advantage of the cyclical nature of energy businesses, but this must be done with an understanding of the history and inherent risks and volatility within the sector.

As Lonsec moves to hold more regular investment committee meetings as market volatility reaches intense levels, it’s important to consider both risk mitigation strategies as well as longer-term opportunities that could add value to portfolios as we move through the cycle.

At a security level, STO has gone from a semi-distressed situation, with multiple capital raisings and a dividend cut in 2016, to a much stronger company now under very good management. Still, after reaching a share price high of $9.00 on 15 January 2020, it has declined 25.5% over the last seven weeks to $6.70 per share, highlighting the potential volatility in the sector.

STO share price

Source: Lonsec

WPL appears to have good defensive characteristics compared to its peers, but its investment pipeline over the next five years includes large outlays on projects with a low internal rate of return. We decided to remove WPL from our core portfolio given the high level of volatility in both the stock and oil price, and we also questioned some of the projects the business has acquired recently.

OSH is in real trouble and is the most levered play – it has higher risk of capital management initiatives compared to its peers. Both STO and BPT have began cutting capex.

The coronavirus outbreak and the dramatic fall in oil prices were not predicable events, but Lonsec’s focus now is on diversifying our portfolios from a bottom-up perspective while looking for opportunities to take a more positive position in certain securities as valuations become more attractive. These conversations will take place on a regular basis, including as part of our formal investment committee meetings, which are now taking place monthly and as required as market volatility plays out.



Household consumption accounts for 56% of Australia’s GDP, making it the main engine of growth for the economy. When households cut back, the economy suffers, with flow-on effects to business and government in the form of lower sales and taxation revenue.

As consumers start making dramatic changes to their daily habits due to the coronavirus, what is the likely impact on discretionary spending and, by extension, GDP growth over the next quarter?

Based on the ABS national accounts data, rent and dwelling services is the largest component of consumer spending, representing 11.5% of GDP. This is followed by recreation and culture at 5.6%, food at 5.2%, and hospitality at 3.9%.

Australia’s consumption as a % of GDP

Source: ABS, Heuristic

Some of these components of household spending are more cyclical – that is, they’re more sensitive to changes in the economic environment. The table below, prepared by Heuristic, shows each sector’s growth during the 1990s recession when GDP dropped 1.4% over four quarters. For example, it shows that purchases of new cars declined 17.8%, while food rose 1.1%.

The second and third columns show the average quarterly growth of each component in ‘recession’ and ‘non-recession’ regimes. This gives us an idea of which sectors might be more ‘discretionary’. For example, communications may have grown 2.6% in the 90’s recession, but growth outside of recessions was 7.8% per quarter. The final two columns show the share of each component of overall consumption and GDP.

We estimate that 40% of consumption is ‘discretionary’, and therefore at risk in the current environment, at least for the next one or two quarters. Note that the ABS’s retail sales data is ‘discretionary’ and represents around 30% of consumption. We estimate discretionary spending is around 22% of GDP. Some of these sectors (such as hospitality) are experiencing declines of 50% or more, while others may experience declines of 10%. Other sectors are experiencing significant increases in the short term (such as food).

Given the nature of the coronavirus pandemic, transport services are unlikely to lift as it did in the previous recession, while recreation and culture will suffer more than in the last recession.

Spending on the discretionary sectors could decline by at least 17% over the quarter. This would force overall consumer spending down some 6–7%. Once we allow for an imported component of 20%, the potential near-term impact on GDP could be in the vicinity of 3%. Chinese retail sales data released earlier in the week revealed a 20.5% decline over January and February due to business and industry shutdowns.

Hopefully we start to see positive effects from fiscal stimulus, along with the rate cuts and other measures announced by the RBA, although this won’t be evident until the June quarter. The good news, if there is any, is that markets have likely already priced in a significant hit to GDP, meaning there shouldn’t be much of a reaction when the next GDP release comes along.

Consumption during recessionary and non-recessionary periods

Source: ABS, Heuristic

The Government is getting most things right. But no one is perfect in the face of a crisis.

For some of the most vulnerable people in society the Government’s message is effectively saying, “Use your own super to tide yourselves over and by the way, you’ll need to take it out at a massive loss, which you can never recoup.” As Chairman of SuperRatings, Jeff Bresnahan says, “There must be a better way.”

Under the current proposal, tens of billions of dollars of assets could need to be dumped into declining markets, meaning that some Australians seeking their $10,000 “tax free” super payment in mid-April, could inadvertently get as little as 70 cents in the dollar against what they would have got just two months ago.

Nearly all of the problems will arise because the eligibility criteria to access your super are way too generous. As Bresnahan says: “This shotgun approach has the potential to come back and bite the Government, hard. The focus absolutely needs to be on those who truly do need access to cash, and fast. Quite simply, those displaced from their jobs due to this horrific COVID-19 virus. In reality, those in hardship. This shouldn’t be a self-assessment process for all Australians”.

SuperRatings also encourages the Government to rethink just how they can get that money to those in need, whilst protecting their retirement nest eggs. Any of the following three options, or preferably a combination thereof, has the potential to protect our most vulnerable as well as retaining their superannuation balances:

  1. Allow funds to take a loan out from the RBA, to meet all claims. This loan would be secured against members’ benefits and repayable after say 5 years. This would then allow members to recoup lost investment earnings. The Government is protected, the member gets emergency funding, and the funds don’t have to dump assets into a declining market.
  2. A variation on (1) but with the ATO handling all claims, making all payments and retaining the loan register. This is a cleaner payment portal and still protects the Government, the member and the fund.
  3. Protect funds against having to sell into declining markets by ensuring that payments are only made to those in genuine hardship (e.g. those who have registered as unemployed, have been stood down, etc. and remain so after 4 weeks). At present, on a self-assessment basis, virtually all Australians, employed or not, could potentially make a claim.

SuperRatings believes the above provides a win/win scenario versus the upcoming lose/lose that Australia’s most vulnerable and those in, or near, retirement are going to cop. By winding back the eligibility criteria, the level of claims will be lower and hence more manageable. This in turn creates more flexibility for the Government on how to best work with the funds to ensure those in need receive assistance as quickly as possible.

Opening the floodgates to allow virtually anyone and everyone to drag up to $20,000 out of their super fund, with the current market volatility, is not the answer. All this after bipartisan governments have spent over 27 years – and half a working lifetime –getting Australians’ retirement savings into shape. As Bresnahan says “These are extraordinary times, but let’s make sure aid reaches those who need it, not everyone who asks”.

Compounding the issue is the loss of future benefits. $20,000 out of a 35 years old’s super account over the next twelve months foregoes around $80,000 in future benefits. As the graph shows, this affects everyone who withdraws money from super.

Impact of super withdrawals on future balances

Assumptions: based on ASIC’s MoneySmart calculator using a Growth option with an assumed investment return of 5.0% before fees and taxes on earnings.

The current potential for rorting the system is significant. If, as a result of unnecessary claiming, some funds are forced to consider freezing withdrawals to protect their remaining members, what will the Government do then? This is not new. Every financial crisis has resulted in a small number of investment funds being frozen, although this might be a first for super funds.

Bresnahan concluded: “The Government has less than three weeks to tweak what is a valid and morally sound strategy to protect, as best they can, the financial stability of those who have been displaced due to COVID-19 consequences. The idea is sound – the execution not the greatest.”

So, with some quick and effective decisions, SuperRatings believes the Government can protect those in most need, by providing emergency funding; whilst simultaneously retaining many Australians’ super for their retirement; and ultimately maintaining the integrity and confidence of the superannuation system overall

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