Exclusive: Time for a Fundamental Reset on Return Expectations, says JBWere’s Sally Auld

By Nick Hedley

Awash with liquidity, financial markets have delivered exceptional returns over the past two decades. Now, a whole generation of investors and clients know nothing else – and it is time to reset their expectations, says Sally Auld, chief investment officer at Melbourne-based private wealth manager JBWere.

“We need to have difficult conversations with advisers and clients to ensure they recognize that the returns they’re used to generating in portfolios heavily weighted to equities are unlikely to be replicated in the decades ahead,” Auld tells Markets Group.

“The investment industry will need to manage expectations as we enter a period of more modest returns across asset classes – a fundamental reset.”

While Auld does not expect a deep recession in the world’s biggest economies, some of the main drivers of returns in recent memory are fading. Those include ultra-loose monetary policy – central banks have been “kicking the can down the road, and we haven’t taken our medicine” – and ever-expanding corporate profit margins.

With inflation and interest rates now moving rapidly higher, JBWere, which is part of the National Australia Bank (NAB) group, has been increasing its allocations toward defensive assets.

In early 2021, when interest rates were close to zero and inflation was well under control, the firm’s portfolios had a roughly 70% weighting towards growth assets.

In February this year, it made its first asset allocation adjustment, followed by a larger one in May. This included a partial shift away from international equities and real assets toward government bonds, gold and other defensive assets.

On gold, Auld notes that the correlation between the metal and the yield on inflation-protected 10-year government bonds appears to have broken down, partly because of geopolitical developments linked to sanctions on Russia.

Looking forward, “a compelling structural story might emerge for gold,” which could act as a hedge against inflation.

The fight against surging consumer and producer prices will likely tip the U.S. into a recession next year, says Auld. “But hopefully it will be a reasonably shallow one – there’s not been time to build an excess of leverage on corporate or household balance sheets.”

A mild recession is also likely in Europe and New Zealand, although risks are mounting around a deeper recession in Europe given uncertainties around gas supply. And while the near-term outlook for the Chinese economy is good as the nation emerges from strict lockdown measures, it too has structural headwinds to contend with.

In Australia, however, national budget revenues continue to be boosted by elevated commodity prices.

“Every day that prices are above Treasury’s conservative pricing forecasts is a cash windfall, which can be used to shield low-income households from higher living costs,” Auld says. “So even though house prices and household consumption indicators are edging lower, we think Australia has an extra degree of policy flexibility.”

The Australian economy entered this volatile period on strong footing and businesses are investing. As a result, domestic equities have become more appealing relative to international stocks.

Fixed income has become more attractive as well, Auld says.

Bonds maturing in 2040 are offering attractive real yields, and although “the time for inflation-linked bonds has come and gone since inflation is already priced in,” these securities can also offer decent real yields; Auld says.

In alternatives, JBWere sees some opportunities in niche uncorrelated assets such as catastrophe bonds and insurance bonds.

Meanwhile, Auld says Australia’s new government, led by Prime Minister Anthony Albanese, will provide both risks and opportunities for investors as it accelerates the country’s decarbonization drive.

JBWere has already invested in a global fund targeting returns from the energy transition, and across the industry, “there’s serious capital that wants to be put to work in this space.”

“But the transition won’t be smooth – we left it too late and we’re now suffering the consequences of a lack of investment; volatility in energy prices of late are testament to this,” Auld says.

Many of JBWere’s clients are keen to invest in companies and sectors that are performing well on environmental, social and governance (ESG) metrics, Auld says. Others, however, simply want the best returns they can get.

Once part owned by Goldman Sachs, JBWere now belongs to the NAB group. It operates in Australia and New Zealand.

Auld will be speaking at Markets Group’s Private Wealth Australia Forum in Sydney in early August.